Itron Inc (ITRI) 2010 Q4 法說會逐字稿

Good day, everyone and welcome to the Itron, Inc., Q4 and year-end 2010 earnings conference call. Today's conference is being recorded. For opening remarks, I would like to turn the call over to Randy Dwiggins. Please go ahead, sir.

Good afternoon everyone, and thank you for joining us today. On the call today we have Malcolm Unsworth, our President and CEO; and Steve Helmbrecht, our Chief Financial Officer. We issued a press release earlier today, announcing our results. The press release includes replay information about today's call. We have prepared slides to accompany our remarks today. These slides are available through the webcast and through our corporate website in the presentation folder under the Investor Relations tab.

Now please turn to slide two, while I review today's agenda. After I complete the introduction, Malcolm will provide a business update. Next, Steve will review the financial results for the quarter, and then Malcolm will close our prepared remarks with a summary of our 2011 outlook. After that, we'll take your questions. Our earnings release and financial presentation include non-GAAP financial information that we believe enhances your overall understanding of our current and future performance. We have included reconciliations of differences between GAAP and non-GAAP financial measures in our earnings release, and financial presentation.

Now, please turn to slide three regarding our Safe Harbor statement. We will be making statements during this call that are Forward-looking. These statements are based on current expectations and assumptions, but are subject to risk and uncertainties. Actual results could differ materially from these expectations because of factors discussed in today's earnings release, and the comments made during this conference call, and in the risk factors section of our Form 10-K, Form 10-Q, and other reports and filings with the Securities and Exchange Commission. We do not undertake any duty to update any forward-looking statements. And with that, I will turn the call over to Malcolm Unsworth, Itron's President and CEO.

Thank you, Randy, and good afternoon, everyone. It's a pleasure to have a chance to discuss with you the year just completed, and the year ahead. Please turn to slide four of your presentation, where we can see the areas I'm going to cover this afternoon. As you know, Itron is a global driver of technology and innovation for electric gas and water utilities. Around the world, the opportunity for energy and resource management continues to expand. Consider in less than 20 years, electricity demand will grow by more than 40%. The aging gas infrastructure is making safety a top-of-mind issue for gas utilities, triggering new opportunities for Itron. And in less than a generation, global water demand is projected to increase by 53%.

We are well-positioned in each of our businesses to capitalize on these opportunities. In the beginning of 2010, I set a few objectives as noted on the slide. Execute on our North American smart metering contracts. Grow our worldwide smart metering opportunities. And improve operating margins. I'm delighted to say that we met these objectives.

Now, could you please turn to slide five. We had another quarter of record revenue, with strong growth over the same quarter last year. In particular, our North American Smart Grid business was up 140% quarter-over-quarter, and our GAAP end points were up 71%. International revenue grew 10.9%, excluding the impact of FX. Overall, our revenue for 2010 was a record year, with much of the growth coming from products and systems that are less than three years old. The patience we demonstrated in the early stages of OpenWay deployment is paying off. With over 5 million OpenWay end points now installed, the system is working beautifully. Our engineering, manufacturing and installation teams have worked tirelessly this year with customers meeting agreed schedules.

We are delivering on our performance commitments. Adjusted EBITDA is up 62%. Non-GAAP operating margins, increased to 11.2%, and we paid down $155 million in debt from operations. Our 2010 book-to-bill ratio was 1.06 to 1. As a result of the beginning of 2011, we have a 12-month backlog of $913 million compared to $807 million at the beginning of 2010. These financial results are continuing proof of our ability to deliver and grow across a balanced portfolio, the centerpiece of our strategy. Now let me give you a few highlights from each business section.

Please turn to slide six. Our consolidated Electric business is up over 50% year-over-year. The deployments of our Smart grid solutions, in particular OpenWay, with installations at year-end of over 5 million points is having a fantastic impact on our business, and opening new potential for smart grid opportunities. This is an asset that is making our phone ring. The recent announcement of our customer, Southern California Edison, winning the Smart Metering Project of the Year Award at DistribuTECH, the major show in North America, is a significant validation of our OpenWay success.

In Europe, the first phase of ERDS' 35 million planned Smart Meter project is going very well. This is the distribution group of the largest utility in Europe. In December, we completed the deployment of 100,000 smart Meters and associated Concentrators we were awarded in 2010. And two weeks ago, I visited with the CEO of ERDS, Madame Balon at her automated factory in France. We were honored by her visit and interest in touring our French design and manufacturing center.

Here are some highlights from the gas front. Our consolidated gas revenues increased approximately 20% versus 2009. Atco Gas in Canada and Center Point Energy in Texas awarded a combined total of 2.8 million Smart Gas end points. Both contracts will be deployed over the next few years. We were selected by Italgas to convert 40% of their C&I standard meters, roughly 30,000, into Smart Meters by the end of 2012. This positions us well to participate in the legally-mandated deployment of smart metering across 16 million gas points in Italy. Recently, we announced our 35 millionth gas communication module shipped in North America, since we started production in the late 1980s. In summary, our Gas business is great.

Now, let's talk about water . Our Water and Heat business around the world has seen excellent progress from our new products. We made several key announcements in 2010 in both business segments, most notably in Cleveland, Ohio; Mumbai, Indi;, and Yorkshire Water; in the UK. Recently in China's Eco-City, in Tianjin, our new heat metering solution, a CF Echo II, is making great inroads, and overall, our Consolidated Water business continues to grow, up approximately 7%.

We saw many key innovations in products and technology in 2010 that will pave the way to continuing growth. I'll talk about North America, international, and software accomplishments. So let's start with North America. We launched 100-Series gas and water solution that includes a residential gas meter with an integrated remote shut-off valve, a new feature that safety-conscious gas utilities are finding attractive. We also extended our water offering with a new leak detection system. This innovation will allow water utilities to pinpoint leaking pipes without the need for unnecessary digging, which is expensive and disruptive to communities. In electric, we introduced a new OpenWay Smart Meter, allowing existing hand-held and mobile AMR customers to migrate to OpenWay without ever visiting the meter, avoiding stranded assets for the utility, and protecting our large install base.

We know that many of you are particularly interested in details in our Cisco relationship, both our plans and our progress. Let me tell you we have been busy. Most recently, for example, at DistribuTECH, we demonstrated a joint solution to over a dozen prospective customers, most of them IOUs. They were very enthusiastic to see the power of Itron's OpenWay system married with Cisco's connected grid vision. The key benefits that customers see include the ability to reduce the risk of adopting Smart grid technologies, lowering the operating costs of the Smart Grid, and improving security, reliability and scalability. And these are a few of INA's innovative products and solutions we launched in 2010.

Now, let's turn to international. We continue to improve our prepayment and smart metering solutions for electric and gas, expanding our footprint across the globe. Here are two examples. In Indonesia, we celebrated the one millionth prepayment installation with the local utility, PLN. And we delivered our second version of Smart Meters to customers in the Dutch market, where they have 40 million Gas and Electric meters to replace. Underscoring our commitment to innovation, we have introduced 11 new products in 2010 in the Water and Heat markets.

A couple of my favorites. Our new composite water meter is a breakthrough. The new high-tech plastic that's used will replace copper meter bodies used today, significantly reducing costs. And this is particularly important, given the dramatic rise in copper prices. In addition, our new UltraMaps heat meter is the first ultrasonic capture meter designed to meet the growing worldwide demand for heat measurement.

2010 also showcased the strengthening of our worldwide software platforms. Here are some examples of the results this has brought. We won the meter data management solution at IBERDROLA in Spain. We received the Teradata Innovation Award for our active Smart Grid analytics platform. We now are a reseller of SAP Business Objects, an important addition to our data analytics offerings. In addition, we completed a token acquisition of Asais, a software company in France. This acquisition enhances our offering, giving us a multi-lingual, standards-based data collection software system.

Plus, we've made great progress in our strategy to bring together Industry-leading software solutions, the best in Metering System technology, and enterprise network and Communication technologies to create intelligent solutions around the world. Those are the highlights of 2010. Now I'll hand the call over to Steve, who will give you the details of the quarter and

Thank you, Malcolm, and good afternoon. Please turn to slide seven for my financial review. We had a strong quarter on the revenue line, with revenue growth of 30.2% over Q4 2009 to a record $621 million, and bookings were $581 million, evenly balanced between North America and international. With the record quarter of revenue. we had a book-to-bill ratio of 0.94 to 1. A disappointment for the quarter was our gross margin, down 60 basis points year-over-year, and our earnings and EBITDA, which were negatively impacted by several charges, which I will go into more detail. I am also disappointed with the identification of an error requiring restatement of our quarterly results in 2010, which I will also discuss.

Looking at slide eight, here is a full-year overview of Itron's financial performance. Across a number of measures, we had strong performance. Annual revenue growth of nearly 34% to a record $2.26 billion. And as Malcolm mentioned, we had nearly $2.4 billion in bookings for an annual book-to-bill ratio of 1.06 to 1. Non-GAAP operating margin, up 270 basis points to 11.2%. GAAP diluted earnings per share of $2.56. Non-GAAP diluted earnings per share of $3.89. Annual adjusted EBITDA growth of 62%, to a record $306 million. And we continued to make progress strengthening the balance sheet, with the debt balance declining by about $180 million during the year, and bringing our debt to total capital ratio down to 30%. Overall, 2010 was a solid year for Itron.

Turning to slide nine, in addition to earnings growth, we had strong improvement in operating and free cash flow. With cash flow from operations for the year of about $255 million, demonstrating high-quality earnings and good working capital management, an area we focused on in 2010. So let's move to slide 10. Our Q4 profitability is at a variance to the revenue growth. Revenues were strong, but didn't flow through to the bottom line as much as we had expected.

Why not? On the plus side, revenue growth was driven by a 25% increase in total unit volumes across all products, and the biggest story here is increased smart metering volumes. During the quarter we finalized an agreement related to a joint interest in an international subsidiary, which reduced a contingency reserve for a positive impact of about $3.9 million, but we had challenges in the form of charges during the quarter, which negatively impacted both gross margins and earnings. We had inventory charges in Itron North America and Itron International totalling about $7 million. These charges related to excess and obsolete inventory, as well as our transition to next-generation technology.

We have lower factory absorption in Itron North America of about $1.3 million, and it was associated with a planned shutdown of our US manufacturing sites near the end of December, as part of on ERP upgrade project. We resumed full production on schedule in January, and are pleased with the ERP upgrade. We have charges in the quarter related to the Company's decision to discontinue doing business in sanctioned countries. Our international subsidiaries discontinued doing business in Iran, resulting in costs associated with inventory and receivables of about $3.8 million. So when you total these up, these charges were about $8 million net of the $3.9 million reduction in the contingency reserve, and had a negative impact of about 130 basis points on total Company EBITDA margin. I do want to point out that our results for the quarter include a discrete tax benefit of about $3 million and that relates to the retroactive reinstatement of the federal R&D credit, which was part of the legislation passed at the end of last year.

Moving to slide 11, our results for Q1, Q2, and Q3 have been restated to reflect the impact of adjustments of $6.1 million in revenue, primarily to defer revenue that had been prematurely recognized. In December, we identified a misinterpretation of a provision related to an extended warranty purchase option on a single OpenWay contract. As the slide summarizes, the impact on our financial results for the first nine months of 2010 was a reduction revenue of $6.1 million and a reduction of GAAP and non-GAAP EPS of $0.11. Let me be clear that the error related to the OpenWay contract will not impact the total amount of revenue recognized over the life of the contract. However, it does affect the timing of recognition. Our unearned revenue balance increased, and this revenue will be begin to be recognized upon the start of the extended warranty period. There is no impact on standard warranty and no impact on cash flow, as we are receiving payment for the extended warranty.

Turning to slide 12, I will now go into unit volumes in the quarter. As I mentioned, we saw unit volume growth of 25%, with Itron international up 10%, and Itron North America up 59%. OpenWay continues to drive INA revenue growth. We shipped 1.4 million OpenWay units during the quarter, and overall unit growth is being driven by increases in advanced meters, smart meters and communication modules. And you can see in yellow that we had an effectively flat level of basic meter shipments compared to Q4 2009.

Now on slide 13, you can see Q4 revenue by region. Clearly, smart metering projects are the primary driver of growth in the US and Canada. European revenue was effectively flat in cost and currency, and slightly down, due to FX. But I want to call your attention to the blue area, emerging markets, which grew 28% year on year. Granted, that is on a small base, but we see emerging markets as a very attractive area, and our multi-local strategy is producing top line growth.

Slide 14 shows Q4 segment results for Itron North America. INA revenue grew 64% from Q4 2009, on 140% growth in OpenWay volumes and revenue, with OpenWay accounting for over half of total INA revenue. Gross margins were down 130 basis points, due primarily to mix. The increase in OpenWay revenue at lower margins was the key driver. However, OpenWay margins in Q4 2010 were higher than OpenWay margins in Q4 2009. Slide 15 shows Itron North America operating expenses, which grew slower than revenue, an objective I have spoken about in the past. The absolute growth in INA OpEx was driven by increased compensation expense and continued investment in R&D.

Moving to Itron international, slide 16 shows Q4 segment results. INL revenue grew about 11% from Q4 2009 on a constant currency basis. On 10% growth and volumes, with growth coming from markets including Indonesia, India and Azerbaijan. Gross margins were down 120 basis points, due primarily to the charges I described. While there were margin pressures associated with higher materials costs, those were offset by higher volumes, which drove better overhead absorption and favorable mix towards higher margin products. Slide 17 shows a slight increase in INL operating expenses with increased sales and marketing and R&D expenses offsetting the impact of the reversal that continues to reserve, I already mentioned, as a percentage of revenue fairly flat.

I want to make one key point about slide 18. You can see in the blue column the continued strong cash flow generation in Q4. With cash flow from operations of $87.5 million and record quarterly free cash flow of about $70 million, we remain focused on generating cash flow and using it to repay debt, which leads to slide 19. You see here the continued trend of debt reduction and an improving debt to EBITDA ratio, which went from 3.9 times at December 31, 2009, to 1.9 times at December 31, 2010, driven by more debt payments and record EBITDA. Since the Actaris acquisition in April 2007, we have repaid nearly $1 billion in debt.

We finished the year with $169 million in cash, and in January of this year, we expanded our revolver agreement by an additional $75 million for a total of $315 million in revolver capacity, which, coupled with our cash on hand, provides good liquidity. In closing, I'm pleased with our progress in strengthening the balance sheet and liquidity and overall execution on our 2010 objectives, and with that, we'll turn it back to Malcolm.

Thank you, Steve. Now let's move on to slide 20. Let me reiterate what I spoke about earlier. This graph shows our evolution from 2007 through to 2010, with our total backlog in yellow, and our 12-month backlog in red. As you can see from the slide, we have a great start to 2011.

Let's move to slide 21 to review Itron's 2011 objectives. Our first objective is to translate INA Smart Grid success into global wins. Secondly, we will grow our Gas and Water businesses. Third we will continue to expand in emerging markets. And, finally, we will focus on increasing profitability.

Now, let's talk about our outlook for 2011. Will you please turn to slide 22. Here is our guidance. Revenue between $2.15 billion and $2.3 billion. Non-GAAP diluted EPS between $3.95 and $4.40. And our guidance assumes a Euro to the US dollar exchange rate of $1.35. Average shares outstanding of about 41.4 million, and a non-GAAP effective tax rate between 27% and 29%.

So in summary, with our innovative capability, global footprint, and broad portfolio of electric, gas and water solutions, Itron is very well-positioned to compete for the growth opportunities ahead of us. And with that, let's open it up for questions.

(Operator Instructions).We will take our first question from Colin Rusch with ThinkEquity. Please go ahead.

Thank you should much for getting me in queue. Can you talk about where the growth is coming from, specifically for the water business. It looks like a tremendous opportunity to me still and I would love to get a little more granularity on that.

Yes, Colin, the growth, obviously that we had in 2010 from 2009, as I said, was in electricity, which was 50%, gas which was 20%, and water which was 7%. In particular, in the water industry, we have significant water changes in North America with our AMI solutions which is why I talked about our 100-W and also in our international business where we launched our EverBlue solution, which is having inroads in Europe and in India, where we have started deployment of the Mumbai project.

Excellent. And can you -- there's -- the slide where you've got your revenue broken down between the basic meters, advanced meters, smart meters, and communication meters. Can you give us a breakdown of a similar backlog entering in the year.

No, we don't go into that level of detail, but as you can see, the amount of shipments that we made in advanced meters is significantly increasing in 2010 over 2009, whereas basic meters are down about 6%, which would probably be the trend as we move forward.

We will take our next question from Jesse Pichel with Jefferies. Please go ahead.

The first is, in the press release, you mentioned services might have been partially responsible or the mix of services. I'm wondering, were services margins down in the quarter, and what do you expect in terms of charges for Q1, or will there be no charges, thus will gross margin go up? The second question I had is, following some headline issues there with gas and pipeline explosions at PG&E and in Pennsylvania, have you gotten any uptick in the interests for the advanced gas monitoring solutions at the distribution level and what kind of technology solutions can you provide into that market? Sorry for the long questions.

Sure, Jesse, this is Steve. I'll take the first one. There were some impacts as well. I did call out specifically some key charges in the quarter, but in addition we did see some pressure on margin in the fourth quarter coming from services, and some of that was timing-based, related to some projects, particularly some of our larger projects. So your question is leading into Q1 and into 2011, there can be movement like that in terms of services, but we don't see what happened in Q4 as the start of a trend overall.

You mentioned charges overall, again, we called out these particular items, but we also do have, and we've talked about in the past periodically, severance or termination-related charges. We did have a little bit of that as well in the quarter, in addition to, you can also include what we saw certainly in this year, higher compensation expense for 2010. So as we look ahead, and what helps shape the guidance we gave is certainly a thought about the margins and some improvement there overall, certainly relative to Q4.

Let me just answer the question regarding the impacts of the gas pipeline explosion monitoring. There is about 2 million miles of gas pipes in North America. And about 60% of those gas pipes are over 40 years old. So we've designed a solution which is a fixed network system that can be put over a territory and actually monitor things like the corrosion levels of these underground pipelines, and also, we've got a complete solution that gives utilities the ability to look at 40 days of data. So it's going to have a significant -- it is going to have an impact on our business in North America moving forward, as seen, as definitely would have an impact.

Okay. We'll take our next question from Steve Sanders with Stephens. Please go ahead.

Hey, good afternoon, guys.

Hi, Steve.

First a question on the international side. You mentioned on slide 26 that over the course of 2010, you saw some delays as customers in Europe kind of looked at next-generation solutions. How should we think about that in 2011?

As I mentioned earlier, Steve, I did visit with the CEO of ERDS recently, and also with some folks, some senior executives in the UK. And, as you see, what I said about Italgas, there are projects that are absolutely moving forward in 2011 and 2012. As we know, there is 27 countries in Europe, and the top five have over a few hundred million to deploy over the next few years. The question really isn't if, it's when. So they've all reiterated that they will be moving forward. And, again, it is a question of if, versus when. Okay?

Okay. And then the follow-up is in North America. Where are you in terms of the next-generation lower-cost OpenWay product? Is that going to fully flow through in the first or second quarter of 2011? Or is it still kind of mixed?

We have launched the products. It is our hardware 3.0 solution and it is in the hands of, I said before, of our customers looking for approvals, but that will be launched in the -- sorry, that will be deployed in 2011, and will start ramping up over time.

We'll take our next question from Stuart Bush with RBC Capital Markets. Please go ahead.

Yes, good afternoon, guys. Your 12-month backlog is higher than a year ago, but 2011 guidance is essentially down sequentially. Can you help me understand the dynamics that would get you from the low-end to the high-end of your revenue guidance range?

Absolutely. Obviously we do a complete bottoms-up approach, and at the same time, we look at the competitive wins we've had and some of the competitive losses. We look at the assessment of all of the outstanding project opportunities that we have, and look at what's what has been mandated through North America, with Texas and California. But at the same time, when you start looking at the total backlog that we have, and the book and ship business that we have, we range between $1.2 billion and $1.4 billion of book and ship business added to the backlog, which is never stable, and neither is the book and ship business. It ranges between $2.1 billion and $2.3 billion. So that's primarily with all of the other bottoms-up approach how we have managed to put that guidance in there.

Okay. And then maybe you can help us understand the dynamics for the margins for next year. What exactly are you putting into place for some margin improvement? Is that mainly in materials in Europe, or in international, or is there something structural or factory absorption here in the US that we can look to?

Obviously, one of the areas of focus that I talked about as an objective, was to improve operating margins. If you take a look at what we experienced in 2010, we had some significant growth rates in particular areas around the world, and that caused some spot buying of components. You see the commodity prices, especially in copper, have definitely risen over last year, but with electronics and a few other things and plastics and steel, it is not too bad. So we now have the ability, because we forecast and look at what we're doing for the, especially in certain parts of the world, where we can do a long-term contracts for some of these commodity prices.

But remember that's why I talked about the water product that I had, which was a new composite material in the water side internationally, that we can transition over to that, which eliminates the spot issues that we had with copper. So overall, yes, it is certainly a concern. But with new products in there and the visibility that we have, I think we will be okay.

Okay. We'll take our next question from Dale Pfau with Cantor Fitzgerald. Please go ahead.

Yes, gentlemen. A couple of quick questions, can you give us an idea of what your expectations are of your revenues next year for your OpenWay meters? And then as a follow-up, if it looks like based on your guidance you're not expecting any significant OpenWay wins that would contribute to revenues over the next four quarters? Thanks.

One thing that's important to understand is that we have seen significant activity levels in our RFQs, both in North America and overseas. And we are looking at winning our fair share of business. We see that we will have specific -- we expect we will have specific wins in 2011. Of course, we would because we have invested heavily in our OpenWay R&D solution. But we're not going to share that, because it's confidential. So, yes, we expect we will be booking more OpenWay solutions in 2011.

And just to follow-up, there is a question about the mix. I mentioned about the 50% upgrade and 50% as a percentage of revenue. Clearly as we go forward in North America, OpenWay will continue to play a large role, but as Malcolm also mentioned, we have seen very good growth in water and gas.

(Operator Instructions).We will take our next question from Vishal Shah with Barclays Capital. Please go ahead.

Hi, thanks for taking my questions. Just to clarify, your guidance for 2011 assumes sequential decline in both North America and international business, or is it just one or the other? And if you take the Q4 OpenWay run rate of, say, 300 million-plus it will imply a steep decline in European business. I just want to clarify that portion. Thank you.

Overall we see revenues between, as I said, $2.15 billion and $2.3 billion, which is relatively flat. Today we do not sell our OpenWay solution overseas. It is only a North American product. But as I said, we're starting to see some growth opportunities in our gas and our balance business with gas, water and electric, overseas, as well as in North America.

We'll take our next question from Carter Shoop with Deutsche Bank. Please go ahead.

Good afternoon. Can we talk about what the exact number was for AMI as a percentage of Itron North America revenue, and then the follow-up question will be, does your guidance incorporate any large 1 million-plus point wins in North America for OpenWay?

Do you want to take that?

Yes, hi, Carter, this is Randy. I believe OpenWay revenue is about 52% of North America revenue in Q4, and with regard to the guidance, as Malcolm had said earlier, we looked at a number of contracts, and you're aware there are contracts out there of that size. We looked at all of those in our guidance, and we're not specifically saying what's in or what's out. It is just as we look at all those opportunities, we factor those in along with the book and ship business to come up with what we think is a reasonable number for the year.

We'll take our next question from Sean Hannan with Needham & Company. Please go ahead.

Yes, good evening.

Hi.

Hello.

So maybe if I can jump on a different topic. So San Diego Gas & Electric has pretty much indicated it is well as the industry is going to have to acknowledge concerns around the use of RF meters and design of alternative solutions in their deployments whether the health of residential customers is truly impacted by the use of RF or not. So when you look at your in-house communications technologies, as well as your partnerships as to what you have with PLC, et cetera, do you see at this point a logical need to step up your position, or even consider an acquisition, or are you comfortable with where you stand today for your offerings?

Well, first of all, Sean, let me just say that our products have gone through rigorous testing and are safe. We make sure they comply with all of the FCC regulations, and I see no reason why we need to worry about our RF communication technology both here and around the globe.

Okay. The question was also PLC.

Did we have a PLC solution already in Europe, and I recently promoted a Chief Technology Officer. His name is Simon Pontin.His responsibility is to make sure we share all the technologies across the globe, which we have been doing in the past, but I now want to start focussing a lot on that even more. And so we do have PLC solutions in Europe and that is an opportunity that we have into North America. So will that mean doing something with acquisition to PLC technology in North America? No.

We will take our next question from Paul Coster with JPMorgan. Please go ahead.

Thanks, Malcolm, the book and ship business is obviously is in part, a function of the health of the end market, the utilities. Can you give us some sense of how you think they are trending in terms of appetite for investing is up, down or sideways. And I have one minor additional question, which as you said in your prepared remarks, you intend to translate INA smart grid success into global wins. Can you explain what can be imported into the international market and why?

Sure. First of all, the health of the market for our book and ship business. If you look at 2009, in a time when we had some significant issues regarding utility cash flows and stuff, it really -- or I should say the balance sheet -- it really was a problem. 2010 saw a fairly good clip of our book and ship business. It came back to over $1.4 billion, and compared with 2009, that was good. So the health of the market I think is fine.

As far as what is -- as I say what is up, European utilities still have a very healthy balance sheet. There is no question about that. And so I don't see any major issues with the book and ship business. Now, how does that translate, you said how does the sharing of technology translate with the success of what we had in North America? One of the things that I talked about was the execution in the beginning of 2010 of our AMI solution, OpenWay.

We have done that, and very successfully, and it is working extremely well. So we wanted to wait until we had a lot of good usage and a lot of good installations completed and deployments. And one perfect example of that is our ZigBee communication technology and our mesh technology and, in particular, our software solutions. So we have a global software platform across the whole world. So with this balanced portfolio, Simon Pontin's responsibility is to make sure we have commonality of processes, we utilize all technology across the Company and we should start to see some of that start to take effect, probably in 2012. Okay, Paul?

Once again, if you would like to ask a question, or if you do have a follow-up question, please press star-one on your touch-tone telephone. We'll go with John Quealy with Canaccord Genuity. Please go ahead.

Good afternoon, folks. First for Steve, can you comment on free cash flow expectations, should we expect the same relative contribution on that revenue in 2011? I'm sorry if you mentioned that. Steve, a very quick follow-up if I could, in terms of the convert, how should we look at a cash versus revolver mix there as you look to extinguish that in June. And just a quick follow-up.

First was on cash flow, and again we mentioned very strong cash flow this year. When we think about a couple factors, CapEx for next year for 2011, pretty similar to what we've seen this year. Overall the capital metrics pretty much the same. Pretty strong improvement here this year and we want to continue that. Really the key drivers there then would be overall earnings results. We'll see a little movement on the cash tax side and pro and con, plus or minus, but really not a big change overall as you're thinking ahead in the cash profile.

You asked also the question about the convert. And that has a put and call option feature in August of this year. We're considering a number of alternatives as we look at that instrument between now and then, and feel we have a number of options we could pursue or still looking at. But the point I want to make there is the recent successful expansion of the revolver by $75 million. If you take the total of $315 million and back out some LCs, it leaves about $270 million in capacity on that revolver, which coupled with cash we believe gives us ample liquidity and a lot of flexibility as we look into later this year.

Okay. And then if I could just for Malcolm, qualitatively are you happy with the competitiveness in Itron now, we got a new relationship with Cisco. You just talked about moving smart grid success internationally. Can you give us a report card about how you think Itron is doing competitively, and what we should expect from you folks next year?

Sure. We spent $140 million in R&D. I talked about all of the new products that we're developing. We specifically mentioned on the water side, where we introduced 10 new products. We have done equally the same across all of the product lines. If you look globally, we spent specific amounts of money in each particular segment, and it's enhancing the products that we have been developing new products to compete in across the globe. So I'm very happy with what we've developed.

In particular I did talk about protecting the install base in North America with our new solution, which includes OpenWay and something that's got what we call an SEM message involved, which protects all of the large install base we have where a customer can convert over from an AMR system to flawlessly move into an AMI system. This is a big improvement that we've got. All of these things should help us competitively.

And especially on the Cisco side, we have been working diligently with phone calls and meetings twice a week with Cisco. We demonstrated a solution that we had at DistribuTECHWe had 10 customers in the booth and private sessions to sign NDAs. So I can't disclose who they all are. They are very interested in our relationship and our future moving forward with Cisco.

We will take our next question from Andrew Weisel from Macquarie. Please go ahead.

Thanks a lot, guys. I apologize, I joined the call late, so I apologize if you said it already. Have you given the breakout of orders between North America and International?

Did we do that?

We did. We didn't give specific. It's Steve, Andrew, but I did talk about a fairly even balance of bookings in the fourth quarter overall, as part of my initial remarks.

Yes, one of the interesting things we mentioned, is that we booked $581 million of orders in Q4. I just wanted to make sure that was understood.

Yes. Great. Very good. Impressive number. I'm assuming it was a lot of small ones, right, because there weren't too many press releases about any big contract announcements during the quarter.

Andrew, we do have a balance business, so we don't rely on one particular section. If one is up, then one may be down. But overall, we're extremely happy with the balanced portfolio we've got across the globe, including North America and Canada. As I mentioned earlier, We have the ATCO gas booking that we had. So I'm very pleased with the $581 million of bookings we had.

We will take a follow-up question from Jesse Pichel with Jefferies. Please go ahead.

Yes, we're trying to ascertain the kind of growth rates we can look at next year, so we would like to ask do you have an update on the Cisco partnership? And in terms of Itron Silver Spring partnership, how is the development on both of these fronts? Thank you.

And I just mentioned about the Cisco partnership, first of all. As I said earlier on the last call, we have had tremendous interest in our relationship with Cisco. What we did was in DistribuTECH, we launched the products and showed behind closed doors to utility executives what our plans were, and our road maps were. Obviously, we can't share that on the phone, we can't share that because of competitive reasons, but they were very delighted with what they saw moving forward and what we're offering.

When it comes to the Silver Springs relationship, one of the things we do believe in is that -- first of all, it will not affect our Cisco relationship, but the idea is winning business. We can't win everything, but what we -- at Silver Spring do win, the idea is to have a balance between utilizing our technology under the Silver Springs banner. So it is an opportunity to be at the table rather than on the menu. Put it that way.

Thank you, sir.

Okay.

And we'll take a follow-up question from Stuart Bush with RBC Capital Markets. Please go ahead.

Yes, hi, guys, can you give us some sense of the seasonality of the guidance across 2011? Should we be expecting more in the back half, or will it be more evenly weighted given the shipments on the OpenWay products to your main customers?

Stuart, this is Steve, we haven't given specific quarterly guidance. We're not going to do that, but as we think of the business as Malcolm talked about, the book and ship business, and relatively level, good strong performance in the fourth quarter, and the trend he talked about, the impact of that can be some timing on projects and so forth, we've generally talked about seasonality as some fourth quarter spending in the past, and utility capital spending, where we didn't mention that, but generally speaking, we don't see a lot of seasonality, any kind of big trends that are happening right now, that would affect seasonality from overall business perspective.

Okay. One follow-up, I mean, excluding 2009 we have typically seen a utility use it or lose it on the budget in the fourth quarters. Any reason to expect we wouldn't see that again this year given the state of the health of the utilities?

Stuart, we had -- we obviously had some end of the year spending included in the $581 million.We specifically don't call that out. We didn't get a lot of that in 2009, because of the way the utility was holding on to their cash on the balance sheet. But we did see some of it this year. And with the health of the industry, could we see it next year? Well, sometimes we do see it in December. So, yes, there's a possibility we could see some end of the year spending, but it just depends.

Stuart, this is Randy. That was one of the many things that we factor into our guidance, we look at the potential awards out there, the book and ship business and year-end spending and all of that becomes how we estimate our number for the year.

We'll take a question from Ben Schuman with Pacific Crest Securities. Please go ahead.

Hi, guys. I apologize if this has been asked already. I jumped on the call late, but can you give us an update on San Diego Gas & Electric specifically if the volume deployment there will finish up this quarter and tell us whether or not any large AMI contracts are baked into the 2011 guidance unannounced AMI contracts? Thanks.

The San Diego Gas & Electric contract is considered to be completed by the end of this year. So, yes, we factored that into our numbers for 2011. With regards to long-term contracts and new contracts, as I said earlier, we don't comment specifically on individual contracts, because we sign NDAs with all of our utilities when we put a response to our RFQ. As I said many times on the call, is that activity is high.

Thanks.

Thank you.

We will take our next question from Patrick Jobin with Credit Suisse. Please go ahead.

Hi, thanks for squeezing me in here. The first question is for Steve. I guess, could you walk us through, maybe, the road map to get AMI margins back up both on the gross margin side and then just looking at kind of the leverage you can pull in your business longer term?

Sure. And Malcolm talked about some of this, as well. Mentioned hardware 3.0. The development efforts under way to take costs out of that product and its approval and now planned rollout over time over the course of the year. That's not the only product we're focusing on taking costs out. Malcolm mentioned composite meters on the water side and other areas. In fact, that is a very large focus of our R&D spending, is both innovation and cost reduction.

On the manufacturing side, when I talk about CapEx, it's looking at manufacturing efficiency and improving automation. You see some large percentage of our capital expenditures is not in adding new properties, but it is actually inside the factory and automation. And then the other key area is on OpEx, and its scalability. Ability to scale the top line. We feel we have generally, the sales distribution in place today with our multi-local strategy. We don't need to significantly increase that. We're investing in new systems for automation, particularly on the G&A front to help to manage that rate of growth down. And that really leaves the R&D line, and we've continuously talked about the R&D spending and we'll continue to focus on that, but as well, Malcolm mentioned with the new CTO a focus on not duplicating and rationalizing and sharing our technology around the area, a major area of focus for us going forward.

Thank you. And then question for Malcolm.It's not if, but when, and you seem to make the comment that 2012 could be a good year for Europe. Did I understand that correctly? Because I think we're all believers that it's not if, but when. But when do you think you'll see meaningful revenue in Europe for smart meter deployments? Thank you.

If you turn to page -- I'm not certain what page it is on -- but we did -- in 2010, on page 26, we did $756 million in Europe versus $807 million in 2009. Europe is still a big piece of our business. Obviously the idea is, when is that smart solutions going to start. If you looked at the five countries that represent a significant portion of it, France, Germany, Italy, Spain and the UK, each one of them have plans in place today to start the deployment either in 2011 or in 2012. And, again, I'll reiterate, it is not a matter of if, it is a matter of when. So we are always looking at these and they're always enthusiastic about moving forward. A, because it is mandated in many parts of the world. And in other areas, we've started already. As I said earlier, Italgas, we started there with deployment of their C&I smart meters. And we have a very nice factory in Naples where that could be something we could ship when they start the residential changeouts.

We'll take our next question from Chris Kovacs from Robert Baird. Please go ahead.

Hi, this is actually Ben Kallo from Robert W. Baird. If I remember correctly, once you and Cisco get your solution worked out, you will deploy that on your AMI projects that you already deployed on. If that's correct, is there a cost associated with that?Is it substantial, and them who bears it and will you have to go back to the PUC for it?

One of the important parts that we've designed for our OpenWay solution is that everything that we have, whether it is hardware 2.0 or hardware 3.0, you do not have to visit the meter to go download the Cisco solution. So the answer is, no, you do not have to go, and you can do it all over the air without any costs associated with it. From the utility.

Okay. On your traditional metering side, can you talk about any pricing pressure you are seeing there.

Yes, there are always pricing pressure. We've had pricing pressure for 25 years and I've been in this industry a long time. It is always pricing pressure. That is why we spend R&D money to increase the functionality, get the costs down. We're always looking at different ways to reduce expenses and reduce costs. But there has always been pricing pressure.

Just had to that, though, there is the benefit of mix as we move towards higher forms of technology and automation. There is the benefit of selling units at a higher price point over time, reflective of that, certainly a key theme in North America.

We'll take our next question from Mark Rogers with Gagnon Securities.Please go ahead.

I was wondering on the inventory obsolescence charge, what was it that had you determine that inventory was indeed obsolete. I know you have talked about over the air upgrade to the Cisco OpenWay version of your product, is there any chance that you will have inventory become obsolete as you roll out this upgrade? Thank you.

We did have -- let's see we had obsolescence. I mentioned that during the quarter, and the costs associated. It was both in Itron North America and Itron international. So really different, different reasons going on there. In Itron North America, as we're shifting towards different generations of product, we did have some inventory obsolescence related to that, but in the context in the size of the rollout and the management of that rollout over time, and the lack of those charges really historically over the last year, overall, as we transitioned to OpenWay, we believe and really focus on trying to minimize that as much as possible, but we did have that and identify that in the quarter.

In international, it related to some excess and obsolete inventory in a couple of foreign subsidiaries as we reviewed those businesses, and the products overall. Could we see that going forward? With the over the air upgrade, I'll let Malcolm speak to that, but again we focus closely on maintaining inventories at the right level and really working closely with manufacturing R&D to minimize that as to the extent possible.

Yes, just to expand a little bit on what Steve said, when you transition to any new products, when you have a big mass deployment, you have to work extremely closely with your customers. And to make sure you do not have significant amounts of excess inventory. So that's really -- we've got the hardware 2.0 and the hardware 3.0. There's a change there in technology, and this has always been looked at with regards to any excess and obsolete. So it is something that you manage very carefully moving forward with any of our products globally.

We will take our next question from Cleo Zagrean with Macquarie. Please go ahead.

It is Andrew. One quick follow-up similar to my last question on the outlook for 2011 between North America and International?

We haven't provided specifics for each of the businesses overall, and provided an aggregate, an outlook for that, so we're not going to give specifics.

Just directionally, qualitatively?

We would see fairly flat. We talked about that. But the businesses generally overall as we looked about the bookings and backlog of the businesses reflects the aggregate guidance.

Okay. Thanks a lot.

We'll take a follow-up question from John Quealy with Canaccord Genuity. Please go ahead.

Real quick, Malcolm, can you talk about likelihood of a transformative acquisition in the next 24 months, what is the appetite of the Board? Is it still execution in organic growth? Can you lay some expectations for us, for the next couple of quarters.

John, we're always looking to organic growth. No question about that. We don't comment publicly on any acquisition plans, however, we do monitor those opportunities on an ongoing basis.

We will take a follow-up question from Carter Shoop with Deutsche Bank. Please go ahead.

Just to clarify some of these charges here. The contingency reserve, inventory charges, and discontinuation charges for Iran, do they all fall into the COGS line or anything in the OpEx line there?

There is a mix but it is primarily in the COGS line. In that we did have some -- some charges that went through, but primarily -- some through the op peck line but primarily those were going through the COGS line overall. I did mention that the release of the reserve went through the OpEx line.

And, gentlemen, at this time there are no further questions. Mr. Dwiggins, I will turn the conference back over to you for any closing comments.

Okay, Cynthia, thank you very much, and thank everyone for joining us today.As always, if you have any follow-up questions, please feel free to give me a call. Thank you.

There will be audio replay available this afternoon. You can access audio by dialing 1-888-203-1112 . Or 1-719-457-0820 1-719-457-0820. With the pass code of 4354205. Or you may go to the Company's website at www.Itron.com. This will conclude today's conference call. We thank you for your participation.We thank you for