Itron Inc (ITRI) 2006 Q2 法說會逐字稿

Good day, everyone, and welcome to the Itron, Incorporated Second Quarter 2006 Earnings Conference Call. Today's call is being recorded. For opening remarks and introductions, I would like to turn the conference over to Deloris Duquette. Please go ahead, ma'am.

Thank you. Good afternoon, everyone, and thank you for joining us today. I have with me in Spokane, LeRoy Nosbaum, our Chairman and CEO, Steve Helmbrecht, our Chief Financial Officer, and Mima Scarpelli, our outgoing Vice President of Investor Relations.

The earnings release that we issued today includes an updated outlook for revenue and earnings for 2006. Today's call also includes discussions that are forward-looking in nature. The business outlook and other forward-looking information we are providing is based on what we know today and is subject to a number of risks and uncertainties. I would like to encourage you to read the forward-looking disclosures in our press release, which alert you to a number of factors that can cause a difference between our expectations and our actual results. You should also refer to our 2005 Form 10-K for a more complete disclosure of specific risks and uncertainties related to our business. Itron does not undertake any obligation to update or revise forward-looking statements, although we may do so from time to time.

Our earnings release also includes non-GAAP financial measures that we believe enhance your overall understanding of our current and future performance. Schedules reconciling GAAP to non-GAAP financial information are included with our press release and are also available on our external website.

Steve's going to start the call today with a discussion of financial highlights for the quarter. After that, LeRoy will offer some additional insight and comments. We will hold a question and answer period after our prepared comments.

Now I'd like to turn the call over to Steve Helmbrecht, Itron's CFO, for the financial highlights discussion.

Thank you, Deloris. And good afternoon, everyone. As you can see from our earnings release, our financial results for the second quarter were very good. Total revenues of 164 million were a new quarterly record, driven by record AMR meter and module shipments. We had pro forma earnings of $0.62 per share, also a quarterly record. On a six-month basis, cash flow from operations was almost 57 million, 20 million higher than the same period in 2005, and new order bookings were 313 million, 6% higher than the same period in 2005.

Let me talk about these points in a little more detail. Quarterly revenues of 164 million were 21% higher than second quarter revenues last year. And six-month revenues of 319 million were 27% higher than revenues for the same period in 2005. The increases reflect growth in all segments. The primary drivers of growth in the quarter and year were increased shipments of AMR technology for gas meters and increased sales of electricity meters with AMR. Shipments of gas AMR increased due to large orders in 2005 and the first quarter of this year, with customers such as Piedmont Natural Gas and Southwest Gas.

Increased shipments of electricity meters with AMR were driven primarily by our project with Progress Energy to install 2.7 million AMR-enabled meters. At the end of June, we had shipped 2.1 million meters related to this contract. We expect to finish shipments later this year and expect to complete the project early next year.

Revenues from this contract were approximately 21% of total company revenues in the first half of 2006. We have shipped almost 3.6 million electricity meters year-to-date, and shipments of our AMR technology, standalone AMR modules, and meters with AMR were 4.8 million year-to-date, both substantially higher than last year.

Software revenues of 15.2 million in the quarter were also a new record, driven by increased license sales across several product lines, including our meter data management applications. New order bookings for the quarter were 107 million. As you will recall, we had near record new order bookings of 206 million in the first quarter. Quarter-to-quarter swings in the level of new order bookings are a normal part of our sales cycle, due in large part to the project-based nature of much of our AMR business. New order bookings for the first six months were 313 million, up 6% from the first six months of last year. And year-to-date, our book-to-bill ratio is slightly greater than 1-to-1.

Total backlog of 351 million at the end of June was 44% higher than the 243 million in total backlog a year ago, and is up 27 million from the end of December. Twelve-month backlog at quarter-end was 225 million, up 74 million from one year ago, and up 37 million from the end of December.

Total Company gross margin for the quarter was 42%, which is comparable with the second quarter of 2005. We have improved operating margins in 2006 compared to 2005. Pro forma operating margin was 16.5% for the quarter, down from 18.1% in the first quarter, and up 14.8% from--18--14.8% in the second quarter of 2005. Operating expenses increased in the second quarter due to ramping up resources related to our AMI development and to a one-time charge related to relocating an office in Vancouver.

Year-to-date, pro forma operating margin was 17.3% and is tracking to what we expected for the year as we focus on growing revenues while controlling our rate of OpEx growth. Software solutions results for the quarter reflect an expense of approximately 800,000 related to the relocation of product development activities in Vancouver, B.C. to Spokane. As well, we had 600,000 in stock-based compensation in the second quarter and 1.2 million year-to-date in 2006 that we didn't have in 2005.

Adjusting for these charges, the software solutions operating loss would have been 2 million in the quarter and 4 million in the first six months, which is roughly a 30% improvement over 2005 results. While we are still showing an operating loss for software solutions, we are clearly making progress toward breakeven.

Pro forma net income for the quarter was 16.4 million, or $0.62 per share, up from 10.4 million, or $0.42 per share in the second quarter of 2005. Operating cash flow was 19 million for the quarter and 57 million for the first six months, compared to 13 million in the second quarter and 37 million in the first six months of 2005.

Year-to-date capital expenditures of 4--14.4 million in 2006 are significantly higher than the 5.3 million in capital spent in the first six months of 2005. The increase in 2006 is related to planned capital improvements for our new headquarters facility, which we will be moving into during September, and for an ERP system upgrade, which is in progress. Adjusted EBITDA, which excludes the effect of stock option compensation, was 31 million for the quarter and 62 million for the first six months, compared to 24 million in the second quarter and 43 million in the first six months of 2005.

Moving to our balance sheet, we do not have any variable rate debt left, leaving 125 million in senior subordinated notes as our only debt. Debt as a percentage of total capitalization was 25% at June 30, compared to 38% one year ago. We ended the quarter with about 47 million in cash. And for those that--who track our receivable statistics, days sales outstanding, or DSOs, remained fairly level at 50 days.

Inventories increased 7 million from last quarter and 10 million from year-end, primarily related to timing of the Progress Energy installation and building additional meter inventory in advance of our annual factory shutdown in July. Despite higher inventory at quarter-end, annualized inventory turns at the end of the quarter were about five times, which have remained steady compared to the end of the second quarter of last year.

In closing, we are very pleased with our financial and operating results for the quarter. Our record revenues and earnings reflect good momentum across all our business segments. 2006 is shaping up to be another very good year from a financial perspective.

Now I would like to turn the call over to LeRoy Nosbaum, Itron's Chairman and CEO, for some additional comments.

Thank you, Steve. And thanks to all of you for joining us today. I'm going to keep my remarks fairly brief, commenting on several of the details Steve mentioned, and then close with a few comments on the subject of AMI, or automated metering infrastructure.

Revenue for the quarter was almost $164 million, another new record for Itron, indicative I believe of continued good momentum in this market for solid state electric meters and for AMR in the electric, gas, and water space. In software, revenues grew to $15 million in the quarter. As well, an Itron record for software sales.

I'm feeling better than ever about our software prospects. With utilities looking at large AMR installations and correspondingly looking to use the data gathered for more than billing purposes, software systems such as those that Itron has pioneered have become increasingly important to our customers. Obviously, another great quarter for revenue.

As Steve outlined, we continue to generate exceptional cash flow, which has allowed us to pay off all of our outstanding bank debt. Accordingly, we have generated a cash balance, which totals approximately $47 million. The obvious question is what will we do with the cash we are generating. I've said in the past we have been looking and continue to look at opportunities to grow Itron's position, both domestically and internationally, through acquisition or partnering opportunities.

As to what we might be looking at, I would point to what we do now in our domestic markets. Extending that kind of activity internationally would be natural. So we look at electric metering opportunities, including partnerships, for our AMR or solid state meter technology might result in competitive and business advantage. We look at software opportunities, although I must say that I'm generally pleased with our current suite of software products. Combining electric meters with AMR has proven quite successful. Replicating that strategy in other areas would be interesting.

In general, we continue to explore opportunities to grow Itron's business beyond our current boundaries, while still being focused in the electric, the gas, and the water utility industries.

As we look to the rest of the year, you'll have noticed that we've raised our guidance to revenue between 625 and 635 million, pro forma EPS between $2.25 and $2.30, and adjusted EBITDA between $118 and $120 million for the year. Given the orders we have booked for the quarter and our excellent backlog, we think this is a reasonable adjustment to our previous guidance.

We just completed a bottoms-up review of our order pipeline for the rest of the year and on into 2007. As has been the case for the last several quarters, the opportunities are many and promising. We like how the rest of the year is shaping up and we're very pleased about 2007 as well.

With that, let me say a few things about Itron's AMI offering. We have announced our first AMI order at Manitoba Hydro - about which we're very pleased - for 5,000 points of electric and 1,000 points of gas AMI. Hopefully, we can expand that opportunity over time to encompass the majority of Manitoba's 750,000 metering points. As that order has become public, we've received numerous questions about what is different and how does AMI affect Itron's other business.

It is that question I'd like to spend some few minutes on this afternoon. First, let me emphasize that AMI offerings - Itron's or others - do not eliminate the market for mobile AMR. Mobile AMR is still far and away the most cost effective method to read meters on a monthly basis. Itron will be selling mobile AMR for a very long time. It remains a mainstay of our product offering.

As well, Fixed Networks that are not AMI networks will be sold where utilities simply read meters more frequently and do not need to communicate to their customer or their customer's meter. They are cheaper than AMI and for many utilities appropriate to the task. Itron will continue to sell Fixed Networks that run on our historical technology base. For utilities, however, that require two-way communication to the meter and to their customer, AMI is generally what they need.

Historically, our Fixed Network and other vendors' fixed networks have in part or whole used proprietary communications to move data from meters to data repositories at the utility. Those have included Itron radio developments in the 900 megahertz and 1.4 gigahertz range. And for others, such things as proprietary power line carrier systems and other proprietary radio-based systems. The key word here is proprietary. Proprietary meaning not open to other vendor systems or products and not following applicable standards, like the American National Standards, also known as ANSI.

Itron's new AMI offering acknowledges two very fundamental and linked principles going forward. One, there is a huge amount of public bandwidth available and it is growing in various forms. Wireless, including WiFi, WiMax and cellular, broadband over power line, and who knows what else in the future. The point is there is plenty of public bandwidth available and at Itron we think it is strategically imperative for Itron and our customers that we design systems to use public bandwidth as flexibly and possible--as flexibly as possible, which includes application of existing communication standards. Trying to create and manage another broadband communication means is not a business Itron should be in.

So as you look at Itron's AMI offering, which we have named OpenWay, you see a system that lets the utility choose their preferred public communication means. WiFi, WiMax, cellular, broadband over power line, or a combination of the various alternatives. Itron provides that flexibility. In addition, we offer the ability for meters to communicate to equipment in the home via Zigbee, another publicly available communication means.

This communicating between meter and home over a public network allows third-party manufacturers to build compatible equipment like thermostats, displays, and control means for major appliances - a real benefit for the utility that is trying to reduce system peak.

In addition to public communication usage, the other principle that Itron is applying to its AMI offering is the use of standard interfaces and communication protocols as specified by the American National Standards Institute. Standards are fundamental to interoperability and fundamental to utilities being able to use different and various public communication means to their best advantage. Specifically, we are adopting ANSI Standards C12.19 and C12.22, which spell out how the various parts of Itron's OpenWay AMI system communicate to each other and make it possible for other vendors to communicate with our system.

We view the use of such standards as very valuable to our customers. And so far, the customer reaction, as well as guidance for public utility commissions, would appear to confirm that belief. Accordingly, with Itron's OpenWay system, utilities are not buying islands of automation. They are implementing a platform that they can build on in the future without worrying about stranding assets. We are very pleased with the customer reaction to our new AMI offering and look forward to other announcements, such as Manitoba Hydro, in the future.

With that, Operator, please open the call to questions.

Thank you, sir. (Operator Instructions.) We have a question from Paul Coster with JP Morgan.

Hi. Thank you. A couple of quick questions on guidance and bookings, if I may. Kind of obvious stuff really. But you beat expectations handsomely this quarter, and yet the guidance sort of suggests that that's it. It's--the street expectations probably were right for the back end of the year. Is that just conservatism on your part, or do you feel that with this sort of the bookings slowing down somewhat that you have less visibility going to the second half of the year?

Paul, LeRoy here. I think the visibility in the second half of the year is as good as it has typically been. So, no change there. As we put forth the updated guidance, we reviewed our pipeline and what we thought was possible. There's always upsides and downsides as we look ahead in the two quarters that close out this year. We think a good balance has been struck, so we're comfortable with it.

Yes, Paul, this is Mima. Let me just add one thing to that. Some of the upside in Q2 is revenue recognition happening a little faster on Progress Energy. And so, while revenues in the second half are appearing to be about the same as they were before, it's a different mix of customers.

Okay. I'm looking at your bookings over the last couple of years and there's not much of a pattern. There seems to be a slight back-end loading in--at least in '04, a little bit in '05. Should we expect bookings to pick up again from this 107 million that we saw in the second quarter, or is there just simply no way of telling when the big projects are going to come through?

Paul, as we look at the last two quarters of the year, we think a book-to-bill of 1-to-1 is probably very achievable for us, so we're comfortable with that.

Okay.

I mean, historically, if you look at quarters, Q4 tends to be slightly bigger. We'll see if that continues to play out.

Steve, what percentage of revenues came from international customers?

About 6%. It's been mentioned that we did complete the acquisition of the Brazilian company, ELO. And we're quite pleased with--overall with international with the bookings and the backlog, including backlog acquired as part of the ELO acquisition. So we continue to focus on growing that business.

Okay. Last question. LeRoy, do you feel like the business model is kind of maxed out now? Is this it? It's just simply a matter of top line. Or do you think there's more to come yet?

Certainly, Paul, if you're thinking about can we continue to have better operating results on our revenue, yes, we think we have some space yet to go in operating margin. Although it continues to get tougher. As Steve said in his remarks, we spent a little bit more in the past quarter on development than the AMI area, but feel like there's a little bit room to go. And then, clearly, on the revenue side, we think there's lots of [model] available to us, both domestically and certainly, internationally.

Okay. Thank you. I'll hop back on the line.

We will now hear from Sanjay Shrestha with First Albany.

Good afternoon, guys. First of all, congratulations on a great quarter. A couple of quick questions. In terms of sort of what you guys are looking at from an acquisition standpoint, LeRoy, is there anything more maybe you can talk about maybe at the--what stages of the discussion you are at, what's going on? Can you maybe give some more color along those lines?

Well, the color that I will give you, Sanjay, is that actively for about the last nine months I've been out and about talking to people, both domestically and internationally, in the general areas that you would anticipate and I just got done talking about. You know how it is. There's no specifics we could--can talk about, if there were any. So we're not going to go any farther than that. But I think if you think about acquisitions for us, we're serious about it. We think that's the serious way and an appropriate way to grow the Company. We're not going to reach out--.

--Sure--.

--On what we know how to do very far. But clearly, as I look internationally, I think we look at many opportunities to grow the meter business we're in. And we look at opportunities to combine our technology with others, either in a straight-up acquisition or some sort of partnership, and really achieve some nice stuff. I don't discount the software world, but right now, I'm actually pretty happy with what we've got given what we're doing in terms of any major acquisitions.

Got it. Okay, that's great. And also, another question here on your AMI initiative. And again, congratulations on that initial win. Now, how should we think about that, LeRoy? Is that something that could potentially--in your announcement, you said there was some early opportunity going into '07. Is that something that's going to kind of start to contribute meaningfully to your new bookings going into 2007, or could we actually start to see some of the traction as early as the second half of this year?

You won't see any traction in particular this year, Sanjay. And I don't think that in real terms you'll see much in '07. Because I think what you're going to see is the kind of pilot stuff you're seeing in the AMI world, which is nice and it creates some very nice press releases and a lot of buzz, and you guys all ask a lot of questions about it. But the fact is it doesn't produce any revenue.

Not yet. So then, is it fair to look at that as like something that sort of extends the--if you would, the growth trajectory for the overall AMR business?

Great way to characterize it. And I think that really begins to kick in for us very late in '07 on into '08. And I don't think it's materially different for other people.

Got it. And one last question. Then, LeRoy, could you once again sort of connect the dots between your backlog number and how that sort of relates to your revenue growth? Obviously, there's a lot of stuff that doesn't hit you right at the 12-month or the total backlog as well. And the bookings inherently is lumpy in this business. So when we sit here and sort of obviously--the second half of '06 is--a lot of stuff--some very good visibility. But as we look into '07, what should we be thinking about? And what's sort of the backlog we kind of need to see at the end of '06 for us to see that 10 to 15% type of top line growth?

Well, I'm going to ask somebody who is sitting here with me that keeps track of all of the numbers to give us a divide between 12-month backlog and the rest.

Sanjay, we've got $225 million worth of 12-month backlog right now. And then, the [post] backlog is about 325 million. So what we feel that it does is gives us more visibility into the year. With a book-to-bill ratio of 1-to-1 or greater, we'll build that and the confidence in '07 is even higher then.

Yes. The nice part about '07 is I think we start off with a pretty good run rate off of that backlog. So as we said in the last quarter, the good news is my sales guys aren't concentrating on the next quarter or very much even on the quarter after that. They're really starting to work real, real hard to book '07 business. And as we reviewed the pipeline here actually quite recently, I was very pleased to see that. So, I'm feeling good. That doesn't decrease some of the lumpiness because there's some opportunities in there that will move the needle on the bookings side a lot. But it certainly does give us some confidence that the rest of this year, as Deloris mentioned, and then, on into next year is in good shape.

[Indiscernible.] Thank you guys once again, and congratulations on a good quarter.

Thanks, Sanjay.

From Greenlight Capital, Chris Summers has our next question.

Hi, guys. This is a question more around I guess, LeRoy, your longer term plans at the Company and executive compensation, noting that your share sales as part of your diversification plan exceeded your annual grant. So I was curious, one, under the current plan, if there is no new grant, when would your exposure to the Company's equity be eliminated? And then, secondly, is there a plan in the next three to five years where you would foresee a management transition? And then, finally, is there a view to--if that's not the case, is there a view to increase stock compensation as a percentage of total compensation?

Well, I'll start with the first one. My own personal ownership at this point is something approaching a percent of the Company's value. Unfortunately, when all of that stuff gets published, you see the sales, but you never see the buys and you don't see what I hold onto. I have more stock ownership in Itron than I have in the entire time I've been here right now. And that ownership will stay fairly constant as we look forward. That has--by the way, that's not your fault. It's the screwy way we have to report this stuff and the way it gets publicly stated.

Is that on a share count basis or on a dollar basis?

Share count.

Okay. Because I don't know how to really dig through this, but I saw in the [indiscernible] [14] for the proxy statement that you had 20,000 options granted in '05 and year-to-date you've sold more than that. So how do you get to the purchases exceeding the sales?

Hey, Chris. It's Mima Scarpelli. Let's take this offline. None of us have that form [four] details in front of us. I can say that the Company has guidelines for all of our executives for stock ownership that are in the range of two to four times their annual salary. We have a lot of executives that have worked hard to get to those. So we'll be happy to address that with you offline.

Okay, great.

Mine specifically is four times and I'm in excess of that.

Okay.

That having said, I think your second question was are we going to continue to award options or some sort of stock compensation going forward. The answer to that is yes. We're watching trends and commentary, as everybody I suppose in our position is. And we have historically handed out options to the executive corp and down a ways into the rest of the employee base at Itron. And we'll continue to do that. The exact form of that could be options, it could be restricted share units. We haven't determined that. But that will go ahead and continue.

And Chris, frankly, I've forgotten the third question.

Any management transition plans in the next three to five years?

Management transition plans. I have said fairly publicly, and so, I'll repeat today, that until 2009 I am--my current intention is to be an employee at Itron. And I serve at the pleasure of the Board, so if they take a different view I guess I might not be here.

Got it.

That said, we have a fairly rigorous succession planning process at the executive level that I go through with the Board. That's alive and well and the Board is keenly interested in it. We review it a couple of times a year. And that's a process not only of identifying, but of making sure people are being moved to the right seats so that they can assume executive leadership positions going forward.

Okay, great. That's very helpful. Thank you, guys, and congratulations.

Thanks a lot.

John Quealy with Canaccord Adams has our next question.

Hi. Congratulations, everyone. A couple of questions. LeRoy, if I heard you correctly, in terms of what you were thinking for the back half of '06 in bookings, you mentioned something like a book-to-bill of one. If you dig through that and you look at your bottoms-up approach to the pipeline, can you comment a little bit about the mix between meters in AMR?

Clearly, you guys have seen a marrying of meters in AMR come in under the electric metering business. But obviously, gas has done well, water is doing well. Can you comment a little bit about how metering/AMR or meter data management comes in in the back half of the year in your expectations?

John, in general, over the course of the last several quarters, we have moved from a position where we sold a lot of electric AMR modules to a position today where we sell next to none of those and we're selling lots of AMR embedded in our solid state electric meter. The value proposition there is just so overwhelming. What that has caused in terms of the numbers we're reporting is a bit of a decline in the meter data collection area and a growth in the electric meter area. If we look into Qs 3 and 4, that trend continues to predominate.

You're right - the gas business is holding up and we've got a lot of backlog in gas. Water business has not been as good as it has been in some other years, but frankly, we look for that to pick up a little bit, so we're pleased with that. But clearly, the meter data collection, MDC business, has tailed off a bit. But all of that business is now showing up in the meter business, which is great.

Okay. And the next question. On the types of contracts that you folks are seeing, or bidding opportunities, can you talk about the mixer proposals? Are folks--as you work your way through the RFP process, are folks focusing more on meter data management solutions and software solutions than they were 12 months ago, at least as they look on how to deal with all of this data that they're going to get with these new technologies and new hardware? And is that part of the sustained movement into this launch into the OpenWay AMI?

Yes. No question about it, John. As we have looked at bigger contracts for AMR, including the AMI contract, the interest in meter data management software has picked up markedly. We have more than a handful of very active meter data management trials ongoing that are just wonderfully producing. And I think we're going to see more and more of it. Because at the heart of it, as utilities, you're wanting to collect all of this data. You've got to do something with it. And for some, they're even considering the possibility of collecting it from a variety of sources. And you have to integrate it and hand it off to other applications within the utility.

So our meter data management interest is high, requests for proposal are high, and our performance out in the field at a number of those where we've already installed it has been just exceptional. I'm really quite pleased. I said to Phillip Mezey, our software guy, not long ago, it appeared he had a wind--a little bit of wind in his sails and he ought to be enjoying it.

Just a couple more questions. On the product development side, you gave good details on OpenWay. Does the new CENTRON platform--is that part of this initiative or is this a separate initiative? If you could comment a little bit on that.

Certainly, the new CENTRON platform is part and parcel of OpenWay because it begins to provide some technology and some benefit at the utilities that they consider as critical to any AMI implementation. Things such as being able to communicate outside the meter to things inside the home, as I described. One I didn't describe - being able to turn off the home. So switches incorporated into the meter become critical to that activity, all of which is being embedded as we move forward with what is already the industry's outstanding platform - CENTRON. We're just making it better.

And just a last bit of questions, perhaps for Steve, on the financial side. Free cash flow, 42.5 million in the first half of the year. I think in past calls, we were talking about something in the 70--$65 to $70 million range. Is that still the idea this year?

Yes, it is, John. Operating cash flow in the $95 to $100 million range. We talked about CapEx as well. So, yes.

And then, with your senior sub note, you've got the potential to take out maybe 60 million of it before next May as an option. How are you guys looking at that option? Because obviously, you're still going to have quite good cash flow, based on the 12-month backlog number.

John, we're very comfortable in terms of capital structure with the senior sub notes - yield 7.875. We--those are callable without a premium and so we're comfortable, as LeRoy said, in continuing to build up cash and look at other opportunities as well.

Great. Thanks, guys.

With [Soundpost Partners], Jamie Lester has our next question.

Hey, guys. Is there any way you guys can give a little more color on this transition from the data collection segment to the electricity metering? Is there any--if I look at the breakout you guys have given in terms of the standalone AMR and the total meters in the electricity metering division, it's kind of unclear how that revenue transition has happened. So is there any way that you can help us think of kind of how many meters in the second quarter versus the first quarter, say, were embedded with the AMR, and so what the kind of like-to-like sequential growth would be if that proportion would stay constant?

Yes. I can take that. We--first of all, I wanted to make it clear that it's a conscious selling effort on our part to not push the standalone electric meter modules. And we are consciously pushing people to instead adopt the electric CENTRON meter with AMR embedded in it. So we don't give out specifics of how many electric modules or gas modules or water modules that we ship.

But you can see that--the increase in CENTRON meters and we do publish in our earnings release the ones that were with AMR and with Itron AMR. And that was 13--or 1.3 million this quarter alone. And you'll see that there has been a little bit of a decrease in the AMR standalone modules, and that's predominantly the electric drop-off. But again, it's a sales strategy, not anything that is happening that we're not aware of.

Got it. Okay. And I guess the second question is, I know that [Esco] had bought a gas module company in conjunction I think with their P&G bid. And my understanding is they're trying to basically move those guys onto their manufacturing platform and maybe compete more aggressively. Have you seen them in the marketplace yet, or is it still too early to have seen that impact, or do you anticipate seeing them I guess?

Jamie, the company was Hexagram. We have competed historically with Hexagram here and there in the gas and a little bit from time to time elsewhere. But we have not seen a change in their competitive stature since they have been purchased by Esco. As to their platform, I have no idea.

Okay. All right. Great. Thanks a lot, guys.

Sure.

Patrick Forkin with Tejas Securities has our next question.

Good afternoon, and congratulations on a good quarter.

Thanks, Patrick.

LeRoy, a question on the development stage of the OpenWay product line. If demand for more robust AMI systems were to pick up in 2007, are you guys at the stage now where you could satisfy that demand relatively quickly for larger scale deployments? I mean, is that the way you're proposing on some of the RFPs that are out there now?

Well, Patrick, so that I don't mislead you, let me say that almost all of the RFPs are saying we want to trial this stuff for a while. And frankly, that's a better position for us as we talk to you today. By the end of this year, we'll have a different view of that. If somebody wanted to go whole hog in '07, yes, we could satisfy a good portion of that demand, and I think without too much pain and suffering. Although we'd have to press some [indiscernible] the service to do it. So that would be a high class problem to have, but one that I certainly don't anticipate.

Okay. Do you see as you move forward here that you would be proposing OpenWay versus Fixed Network 2, where in the past you have been proposing Fixed Network 2?

Yes. Good--great question. And the answer to that is, it depends. We have had actually that dynamic conversation with a number of utilities already, where we had been in talking about Fixed Network 2. And we have gone back in and said to them, we have another product. Here's what it does. Here's what it's going to cost. Here's what it might do for you.

In some cases, the utility has been very interested in the new product. In other cases, they have said, no, we don't need that functionality. In fact, we don't want that functionality because the price point for all of that enrichment is just not useful for us. So it's going both ways. That's why I was some careful in my prepared remarks to say, I think we sell Fixed Network 2.0 to a number of utilities for quite a long time.

Okay. And with Fixed Network 2, that would be especially appropriate for existing customers that have mobile systems with Itron?

Certainly, it's more attractive to a customer who has Itron modules all over the place. It's an upgrade path that we've talked about for many years. Although I can think of at least one specifically that does not have a mobile system installed that is highly likely to go directly to Fixed Network 2.0.

Okay. And then, on the water side, it looks like there's some--a number of fairly high profile proposals that are out there in Detroit and Chicago and Kansas City, and on electric, in Florida and California. I was wondering if you could comment in general on any of those situations.

Well, there are a lot of high profile proposals that all of you guys check in with from time to time. And while I won't talk about any of them specifically, they're all marching forward. The water industry in specific has been a little quiet the first half of the year. I don't think it necessarily remains that way. But the problem with the water industry is it's municipal-based by-and-large, and things line up at municipals pretty slowly. So we'll see how all of that goes on and all. But we like our positioning for most of those opportunities.

Okay. That's all I had. Mima, good luck to you.

Thank you, Patrick.

We will now hear from [Stuart Bush] with RBC Capital Markets.

Yes. Good afternoon, guys.

Hey, Stuart.

I have sort of a general question about the shift of going from--to the AMI Systems. I mean, I know the CapEx involved per end point is currently much higher. I know it's tough because it's a pilot program to really nail it down on what it would be full scale. But I'd just like your thoughts on what is sort of the ideal premium differential between what it costs for end point for an AMR system versus what it costs for AMI, in order to move the AMI trend forward, but not cannibalize the AMR stuff too much.

Stuart, I'm just not going to give you specifics about that at this time for a couple of different reasons. One, they are a little fuzzy. Two, as often as not, I have half my competitors listening to these phone calls. That said, it's a lot more expensive. It just is. Think about what you're doing. I mean, you're communicating two-way to tens of thousands, if not multiple millions of end points, you're providing capability to turn meters on and off - very expensive, and you're likely communicating inside a house, so you've got yet another communication scheme available. We are talking about serious increase in cost to customers.

And--so you have to have a real reason to do it. And for some utilities, they really do. I mean, you say California in the very recent past go ahead and approve PG&E. And I'm sure they're very glad they've done it because they're having power issues big time in California this past week. For some other locations, the same kind of thing is true and it's justifiable. For the bread and butter utility who only wants once-a-month meter read, fire away. Mobile meter reading is the cheapest way to go. For the utility who doesn't need to have two-way communication, doesn't need to be controlling loads, Fixed Network's much, much cheaper. But to give you the exact number, I'm--we're just not ready to do that today and we'll hold that off as long as we can.

Yes, I totally understand. What about--the general strategy as you look forward of--I mean, is the goal for you guys to mainly be a platform in software vendors and sort of rely on a lot of third parties to have a lot of the add-on modules that might fix into a--fit into an AMI system? Or do you think it might be better to move toward the full suite down the road sometime?

I think it's reasonably definable for us as I sit here today. One, we're in the meter business, we're going to be in the meter business. Two, we're in part of the communication business and that part includes some technology we'll embed in our meter products that probably includes some other communication technology as well. But, as I said in my prepared remarks, there is so much public communication available it gets sold over not just the--call it 10 million meters--electric meters sold every year, but get sold over hundreds of millions of devices. For us to be in that form of communication, I think, is silly.

The interesting question is, okay, if you're going to communicate inside houses, do you want to be in the display business? Do you want to be in the--that kind of business? Today, I think not, although I'd reserve that decision for some time in the future. And clearly, we're going to be in the software business because we're the best people to manage all of those shared services that run involving meters and customers.

Okay. Great quarter, guys.

Thanks.

(Operator Instructions.) We will now hear from [Sun Lee] with Royal Capital.

Hey, guys.

Hi.

A quick question regarding your backlog. How much of that is the Progress contract?

There's about $35 million left on the project.

Okay. And that will all be done after the third quarter?

Most of the meters will be shipped in the third quarter. There's some follow-on installation revenue into the end of the year.

Got it. And I think you gave a percentage of revenue from the contract for the first half. Is the second quarter sort of the same?

It was--it's been running about 20 to 21% of our total Company revenue year-to-date.

Okay. And a couple of questions on the potential acquisitions you're looking at. Are you running into a bunch of competition when you look at some of these assets?

Oh, not an over amount. I mean, there's always people that are looking around for assets. Those of us that have made a lot of money in the meter space and the AMR space are--we point out the value of this business. There's [indiscernible] competition out there. But, no, we're not in bidding wars as we think about opportunity.

Okay. And if you would characterize the opportunities you are sort of most focused on, is it mostly international? Is it sort of gas and water meters in--domestically?

As we've been focused, we have equally focused domestically and internationally. And we look at what makes sense in terms of valuation, in terms of growing our own business, and in terms of building a future Itron in a strategic and planned way. So I couldn't honestly say that I've focused more domestically than internationally. I've focused on both. And some of that--some of the focus changes as you discuss things with people and they are either interested or they are not.

Okay. And then, internationally, what's the advantage for you to buy up an AMR company internationally? Why not just develop the sales force native to that country and sell your product? You said yourself it's proprietary. So given that you have good technology, why couldn't you just sell that product as opposed to acquiring a company?

In some locations you can. It really becomes situational. In some parts of the world, presence means having established feet on the street, a company that customers know, and coming in through their door with that established presence arm-in-arm. In other places, your proposition works very, very well. You can go in and you can establish your own technology without having to make a major acquisition. And so, as we look at the potential, we look at how best we can get there given our tolerance and patience for taking a long time to build something up.

Okay. And in terms of acquisitions again, would you be more willing to do one bigger one, a few smaller ones? I mean, could you digest a few at a time?

We could--if the acquisitions were fairly small as the two we've [indiscernible] announced, Quantum and ELO. I mean, we're good enough at that whole process now where, yes, it's a lot of work, particularly for our financial folks. But we can digest those very quickly. We have no particular shyness for large acquisitions. We wouldn't do two large acquisitions at once. That would be just too much to do.

Got it. And last question. On the PG&E contract, I know that you guys aren't part of it yet. But what's left there to bid on, if anything?

I--in my view, there's three opportunities there that continue to exist. One, and the main one for us right now, certainly there's going to be a lot of meters changed out. As that happens, we'd like the base technology for the meter to be Itron CENTRON. And we're working that very hard with PG&E. As well, as we go through the length and breadth of that process, we still think that there's some likelihood that network technology other than the two that have been approved so far will be deployed. And so, we have spent some time with PG&E talking about our new OpenWay AMI offering. And we've gotten a reasonable reception. I won't call it overly warm, but a reasonable reception. So I think we have some potential there.

And we're still the best meter data management software on the face of the earth. And we try hard not to let PG&E forget that. And so, we have been talking to them about that. They already use our meter data management software for all of their commercial industrial customers. So I'm hopeful there as well.

Okay. Thank you. Nice quarter.

Thanks.

Thank you.

We have a follow-up question from Paul Coster.

Yes. LeRoy, I guess that I'm going to try and sort of tie you down a little bit more on the acquisition front, if possible, and get you to articulate your philosophy regarding accretive versus dilutive acquisitions, and what kind of criteria you're holding out. Particularly for international growth, and particularly for sort of meter or AMR type business.

Paul, that one's easy and I will expand on that a bit. We don't like acquisitions that aren't accretive or at least can't be made accretive very quickly. If I looked at an acquisition that was incredibly strategic and it wasn't accretive on day one, but I could make it accretive within the next 12 months, as long as it wasn't massively dilutive, we'd at least think about that. And in so doing, we do an awful lot of due diligence around the subject of how to make it accretive. But generally, we don't like dilutive acquisitions unless there is some very important strategic component to that acquisition.

Are there any countries or regions that are looking particularly interesting in terms of the infrastructure and meter upgrades at present? You've talked about this previously. I'm just wondering if anything has happened since the Analyst Day in particular.

No, I wouldn't expand on that any more than we already have. We continue to be interested in any place where we think we can grow the business reasonably in a reasonable period of time. So I've been all over the globe looking at opportunities.

Okay. Thank you.

(Operator Instructions.) And we will now go to a follow-up question from Jamie Lester.

Yes. Hey, guys. Actually, the international question was one of my questions. There's no update there on any of the fronts?

Well, other than I'd say what we've been doing internationally is working really, really well. I couldn't be more pleased with our ELO acquisition. We continue to have some successes in the Middle East, and so far the turmoil is not bothering us. We're doing some interesting stuff in Japan, but we're always doing interesting stuff in Japan. And that is going well in terms of a water Fixed Network trial that we're trying to put together over there. So I'm please with all of that. We continue to sell software everywhere in the world, which I'm pleased with as well.

Okay, great. And then, the second question is what's the rate--over time I know this isn't exact--there's other stuff in the segment data. But if I just looked through over time at the electricity metering and I'd want to make assumptions about the module, what sort of annual decline in the kind of combined meter with AMR module attached should I assume through time? Is it--and I don't know if you can separate that into the module and the meter part also. But just kind of historically what has that been, and is there any way to help me think about going forward how I could model that out?

I don't know that I would put it like that - a decline in the AMR and meter module. I mean, we obviously are switching that. We're selling more meters with embedded AMR in them. If you looked historically, if you trended that, you would see that not only are the number of meters that we're selling growing, but the percent that have AMR in them are gaining substantially versus just a standalone meter. And so, I guess that that trend will grow. But a lot of that will be dependent on landing AMR projects as well.

I guess my assumption was like any other--like a lot of other I guess kind of electronic/electric products. As volumes increase, prices tend to come down. And if you just look at the number of meters sold and divide that into the revenues in the electricity metering segment, it does tend to come down over time . So I was wondering--and you would think since you're adding more AMR modules into that segment that the--.

--We--.

--That figure should go up over time. So is there any way you can help me think about it? I mean, if not, that's fine, too.

We've seen a little bit of pricing pressure, but it's predominantly been because of the large project deployment. So it--the selling prices have come down somewhat over time, but it's primarily been driven by volume. We've been able to make it up on a margin basis primarily with volumes. But I would also caution you that you can't do a straight number of meters divided by revenue because it really depends on the mix. It depends on standalone meters with AMR, it depends on if it has AMR, it depends on if it's a [C&I] meter. And then, also, there is installation revenue embedded in that. So you really cannot do a calculation like that and have it makes sense.

Okay, good. And when Progress rolls off, you would think that the price per meter would go up just because they--ostensibly for a big order then they'd have a lower per meter.

It will depend on the mix once again.

Okay. Thanks, guys.

(Operator Instructions.) Ms. Duquette, it appears that we have no further questions. I will now turn the conference back to you for any closing or additional comments.

Thank you. This is LeRoy Nosbaum. I'm going to make a closing comment this time as opposed to what we normally would do. And I do it on the occasion of this is probably the last conference call that Ms. Scarpelli is going to be on with us. So not to get teary-eyed about it, but I would say, thank you, Mima. It's been a great run and you have been a tremendous Investor Relations Officer for Itron. So thank you very much.

And with that, thank you all who joined us today for your continued interest and support in Itron. Thank you.

Thank you, everyone. There will be an audio replay of today's conference available this afternoon. You can access the audio replay by dialing 1-888-203-1112, or 1-719-457-0820. You will need the passcode of 3682406. Again, those numbers are 1-888-203-1112 or 719-457-0820, with a passcode of 3682406. Or if you wish, you may go to the Company's website of www.itron.com.

And that does conclude today's conference. We do thank you for your participation. On behalf of today's speakers, I would like to wish everyone a great day.