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ITRI > SEC Filings for ITRI > Form 10-Q on 6-Nov-2012All Recent SEC Filings

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Form 10-Q for ITRON INC /WA/


6-Nov-2012

Quarterly Report


ITEM 2: Management's Discussion and Analysis of Financial Condition and Results of Operations

In this Quarterly Report on Form 10-Q, the terms "we," "us," "our," "Itron," and the "Company" refer to Itron, Inc.

The following discussion and analysis should be read in conjunction with the unaudited condensed consolidated financial statements and notes included in this report and with our Annual Report on Form 10-K for the year ended December 31, 2011, filed with the Securities and Exchange Commission (SEC) on February 17, 2012, and as disclosed in our Current Report on Form 8-K, filed with the SEC on May 24, 2012.

Documents we provide to the SEC are available free of charge under the Investors section of our website at www.itron.com as soon as practicable after they are filed with or furnished to the SEC. In addition, these documents are available at the SEC's website (http://www.sec.gov) and at the SEC's Headquarters at 100 F Street, NE, Washington, DC 20549, or by calling 1-800-SEC-0330.

Certain Forward-Looking Statements

This document contains forward-looking statements concerning our operations, financial performance, revenues, earnings growth, liquidity, and other items. This document reflects our current plans and expectations and is based on information currently available as of the date of this Quarterly Report on Form 10-Q. When we use the words "expect," "intend," "anticipate," "believe," "plan," "project," "estimate," "future," "objective," "may," "will," "will continue," and similar expressions, they are intended to identify forward-looking statements. Forward-looking statements rely on a number of assumptions and estimates. These assumptions and estimates could be inaccurate and cause our actual results to vary materially from expected results. Risks and uncertainties include 1) the rate and timing of customer demand for our products, 2) rescheduling or cancellations of current customer orders and commitments, 3) changes in estimated liabilities for product warranties and/or litigation, 4) our dependence on customers' acceptance of new products and their performance,
5) competition, 6) changes in domestic and international laws and regulations,
7) changes in foreign currency exchange rates and interest rates, 8) international business risks, 9) our own and our customers' or suppliers' access to and cost of capital, 10) future business combinations, and 11) other factors. You should not solely rely on these forward-looking statements as they are only valid as of the date of this Quarterly Report on Form 10-Q. We do not have any obligation to publicly update or revise any forward-looking statement in this document. For a more complete description of these and other risks, refer to Item 1A: "Risk Factors" included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2011, which was filed with the SEC on February 17, 2012.

Results of Operations

We derive the majority of our revenues from sales of products and services to utilities. Our products and services include hardware, software, managed services, and consulting. Cost of revenues includes materials, labor, overhead, warranty expense, and distribution and documentation costs for software.

As part of our global reorganization that was announced in the first quarter of 2011, we now manage and report under two operating segments, Energy and Water. A transition to the new organizational structure, including changes to operations and financial and operational management systems, was completed in the first quarter of 2012. Therefore, financial reporting as of and for the three and nine months ended September 30, 2012 is based on the new operating segments, Energy and Water. Prior period segment information has been recast to reflect our new operating segments.

The Energy operating segment includes our global electricity and gas businesses, and the Water operating segment includes our global water and heat businesses.

We have three measures of segment performance: revenue, gross profit (margin), and operating income (margin). Our operating segments have distinct products, and therefore intersegment revenues are minimal. Corporate operating expenses, interest income, interest expense, other income (expense), and income tax provision (benefit) are not allocated to the segments, nor included in the measure of segment profit or loss. In addition, we allocate only certain production assets and intangible assets to our operating segments. We do not manage the performance of the segments on a balance sheet basis.


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Overview

Revenues for the three and nine months ended September 30, 2012 were $504 million and $1.7 billion, compared with $616 million and $1.8 billion for the same periods last year. Fluctuations in foreign currency exchange rates unfavorably impacted revenues by $35 million and $83 million for the three and nine months ended September 30, 2012. Excluding the foreign currency translation impact, revenues decreased during these same periods in 2012 due to our five largest OpenWay projects in North America nearing completion, lower gas module shipments in North America, and lower Energy product shipments in Asia/Pacific, the combination of which was partially offset by an increase in Water revenue. Gross margin for the third quarter of 2012 was 34.1%, compared with a gross margin of 28.8% for the same period last year. Gross margin for the nine months ended September 30, 2012 was 33.3% compared with a gross margin of 30.9% for the corresponding period in 2011. Reduced warranty costs accounted for gross margin improvement of 5.4 percentage points for the quarter and 1.9 percentage points for the nine month period in 2012.

For the three and nine months ended September 30, 2012, we had tax provisions of 15.4% and 22.2%, based on a percentage of income before tax, as compared with tax provisions of 1.2% and 3.6%, based on a percentage of loss before income tax, for the same periods in 2011. The three and nine months ended September 30, 2012 included minimal discrete tax benefits, while the same periods in 2011 included the impact of the goodwill impairment of $540 million, which was not deductible for income tax purposes.

Total backlog was $1.1 billion and twelve-month backlog was $592 million at September 30, 2012.

On October 24, 2011, our Board of Directors authorized a twelve-month repurchase program of up to $100 million of our common stock. On September 13, 2012, the Board approved the extension of the expiration date of the stock repurchase program until February 15, 2013, or until the aggregate limit of $100 million of outstanding common stock has been repurchased, whichever occurs first. During the nine months ended September 30, 2012, we repurchased 1,044,105 shares of our common stock for $40.7 million. Since the inception of the repurchase program and through September 30, 2012, we have repurchased 1,867,454 shares for $70.1 million.

Total Company Revenues, Gross Profit and Margin, and Unit Shipments

                 Three Months Ended September 30,           Nine Months Ended September 30,
                  2012            2011       % Change       2012            2011        % Change
                    (in thousands)                             (in thousands)
Revenues     $   504,063       $ 615,555      (18)%     $ 1,654,843     $ 1,791,647       (8)%
Gross Profit $   171,797       $ 176,996       (3)%     $   551,647     $   553,925        -%
Gross Margin        34.1 %          28.8 %                     33.3 %          30.9 %



                             Three Months Ended September 30,         Nine Months Ended September 30,
                                  2012                2011                2012                2011
                                                          (in thousands)
Revenues by Region
United States and Canada
(North America)            $         224,956     $     292,322     $         802,542     $     852,715
Europe, Middle East, and
Africa (EMEA)                        211,195           227,884               648,050           702,296
Other                                 67,912            95,349               204,251           236,636
Total revenues             $         504,063     $     615,555     $       1,654,843     $   1,791,647

Revenues
Revenues decreased $111.5 million and $136.8 million, or 18% and 8%, for the three and nine months ended September 30, 2012, compared with the same periods last year. The net translation effect of our operations denominated in foreign currencies resulted in an unfavorable impact to revenues of $35.5 million and $83.1 million for the three and nine months ended September 30, 2012, compared with the same periods in 2011. A more detailed analysis of these fluctuations is provided in Operating Segment Results.

One customer, BC Hydro and Power Authority, accounted for 10% of total Company revenues during the nine months ended September 30, 2012, while no single customer accounted for more than 10% of total revenues for the three months ended September 30, 2012 and during the three and nine months ended September 30, 2011. Our 10 largest customers accounted for 25% and 29% of total revenues for the three and nine months ended September 30, 2012, and 35% and 31% for the three and nine months ended


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September 30, 2011, respectively.

Gross Margins
Gross margin for the third quarter of 2012 was 34.1%, compared with a gross margin of 28.8% for the same period last year. For the first nine months of 2012, gross margin was 33.3% compared with 30.9% in the same period in 2011. Gross margin improved over the prior year for the quarter and nine months primarily due to lower warranty costs, which positively impacted gross margin by 5.4 percentage points in the quarter and 1.9 percentage points in the nine month period. In addition, gross margin for the nine months ended September 30, 2012 improved as a result of favorable product mix and lower manufacturing costs in both the Energy and Water segments. A more detailed analysis of these fluctuations is provided in Operating Segment Results.

Meter and Module Summary
We classify meters into three categories:
• Standard metering - no built-in remote reading communication technology

• Advanced metering - one-way communication of meter data

• Smart metering - two-way communication including remote meter configuration and upgrade (consisting primarily of our OpenWay® technology)

Advanced and smart meter communication modules can be sold separately from the meter. A summary of our total electricity, gas, water & heat meter and communication module shipments is as follows:

                                  Three Months Ended September 30,    Nine Months Ended September 30,
                                        2012              2011              2012              2011
                                                          (units in thousands)
Meters
Standard                                    4,110           4,910              13,610         14,850
Advanced and smart                          1,700           2,380               6,110          6,310
Total meters                                5,810           7,290              19,720         21,160

Stand-alone communication modules
Advanced and smart                          1,500           1,560               5,050          4,840


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Operating Segment Results

For a description of our operating segments, refer to Item 1: "Financial
Statements Note 15: Segment Information".

                           Three Months Ended September 30,                                        Nine Months Ended September 30,
                       2012               2011            % Change                            2012              2011            % Change
Segment
Revenues                  (in thousands)                                                         (in thousands)
Energy
Electricity     $       226,552      $    313,728           (28)%                       $       794,496     $   880,529           (10)%
Gas                     150,937           170,020           (11)%                               465,338         509,450           (9)%
Total Energy            377,489           483,748           (22)%                             1,259,834       1,389,979           (9)%
Water                   126,574           131,807           (4)%                                395,009         401,668           (2)%
Total revenues  $       504,063      $    615,555           (18)%                       $     1,654,843     $ 1,791,647           (8)%

                                  Three Months Ended September 30,                                       Nine Months Ended September 30,
                               2012                                2011                               2012                               2011
                      Gross              Gross              Gross            Gross            Gross             Gross             Gross           Gross
                      Profit             Margin            Profit           Margin           Profit            Margin            Profit           Margin
Segment Gross
Profit and        (in thousands)                       (in thousands)                    (in thousands)                      (in thousands)
Margin
Energy          $       125,503          33.2%        $       144,120        29.8%      $       409,057         32.5%       $       426,457       30.7%
Water                    46,294          36.6%                 32,876        24.9%              142,590         36.1%               127,468       31.7%
Total gross
profit and
margin          $       171,797          34.1%        $       176,996        28.8%      $       551,647         33.3%       $       553,925       30.9%

                                  Three Months Ended September 30,                                       Nine Months Ended September 30,
                               2012                                2011                               2012                               2011
                    Operating          Operating          Operating        Operating        Operating         Operating         Operating       Operating
                  Income (Loss)          Margin         Income (Loss)       Margin        Income (Loss)        Margin         Income (Loss)       Margin
Segment
Operating
Income (Loss)     (in thousands)                       (in thousands)                    (in thousands)                      (in thousands)
and Operating
Margin
Energy          $        30,978            8%         $      (166,197 )      (34)%      $       116,211          9%         $       (77,566 )      (6)%
Water                    22,293           18%                (321,191 )     (244)%               49,896          13%               (290,582 )     (72)%
Corporate
unallocated              (7,304 )                              (9,864 )                         (34,456 )                           (30,930 )
Total Company   $        45,967            9%         $      (497,252 )      (81)%      $       131,651          8%         $      (399,078 )     (22)%

Energy:

Revenues - Three months ended September 30, 2012 vs. Three months ended September 30, 2011
Electricity revenues decreased $87.2 million, or 28%, for the three months ended September 30, 2012, compared with the same period last year. Revenues in 2012 were lower primarily driven by $75.8 million in scheduled decreases in our five largest OpenWay projects in North America, by decreased product shipments in Asia-Pacific of $15 million, and by $13.3 million for the currency translation effect of our operations denominated in foreign currencies. These decreases were partially offset by $8 million in increased product shipments in EMEA.

Gas revenues decreased $19.1 million, or 11%, for the three months ended September 30, 2012, compared with the same period last year, primarily as the result of $8.4 million in lower shipments of smart gas communication modules in North America, due to normal period-to-period fluctuations in the timing of customer projects, and $10.5 million for the translation effect of our operations denominated in foreign currencies.

One customer represented 11% and 10% of the Energy operating segment revenues in the three months ended September 30, 2012 and 2011.

Revenues - Nine months ended September 30, 2012 vs. Nine months ended September 30, 2011
Electricity revenues for the first nine months of 2012 were lower by $86.0 million, or 10%, when compared with the same period in 2011. In 2012, OpenWay project revenues shipments in North America decreased by $60.2 million from the same period in 2011. Our 2012 revenues were unfavorably impacted by lower revenues in Latin America and Asia-Pacific and also by $30.9 million related to the translation effect of our operations denominated in foreign currencies. These decreases were partially offset


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by an increase in Electricity professional services in EMEA.

Gas revenues decreased $44.1 million, or 9%, for the nine months ended September 30, 2012, compared with the same period last year, primarily due to $7.5 million in lower OpenWay project revenues in North America resulting from the completion of a large OpenWay project during 2011, lower product shipments in EMEA, and $25.3 million for the currency translation effect of our operations denominated in foreign currencies.

One customer represented 13% and 11% of the Energy operating segment revenues in the nine months ended September 30, 2012 and 2011.

Gross Margin - Three months ended September 30, 2012 vs. Three months ended September 30, 2011
Gross margin was 33.2% for the three months ended September 30, 2012, compared with a gross margin of 29.8% for the same period last year. During the third quarter of 2012, gross margin was positively impacted by $14.5 million of lower warranty expense when compared with the same period in 2011, and reduced product costs as a result of our restructuring and global procurement projects, which were initiated in the fourth quarter of 2011. Warranty expense in the third quarter of 2012 was favorably impacted by $2.7 million for reductions in warranty reserves based on updated cost estimates.

Gross Margin - Nine months ended September 30, 2012 vs. Nine months ended September 30, 2011
Gross margin was 32.5% for the nine months ended September 30, 2012, compared with a gross margin of 30.7% for the corresponding period in 2011. Gross margin was positively impacted by $18.3 million of lower warranty expense when compared with the nine months ended September 30, 2011, product mix, and reduced costs as a result of our restructuring and global procurement projects, which were initiated in the fourth quarter of 2011. Warranty expense in the first nine months of 2012 was favorably impacted by a $5.0 million adjustment, which reduced a warranty reserve originally recorded in 2011, as a result of lower than estimated replacements. Warranty expense in 2011 was negatively impacted by a $7.7 million charge related to certain products in Brazil and $8.3 million due to corrective actions for specific customers in North America, which were partially offset by an $8.6 million insurance recovery associated with product claims in Sweden in 2010.

Operating Expenses - Three months ended September 30, 2012 vs. Three months ended September 30, 2011
Energy operating expenses decreased $215.8 million, or 69.5%, for the three months ended September 30, 2012, compared with the same period last year, primarily due to the goodwill impairment of $216.1 million recognized in 2011, favorable foreign currency translation impact of $5.9 million, and scheduled decreases in amortization of intangible assets. These decreases were offset by increased sales and marketing costs and product development costs for the development of new and enhanced products. Apart from the goodwill impairment and restructuring, operating expenses as a percentage of revenues were 25% for the three months ended September 30, 2012, compared with 19% for the same period last year. Itron Cellular Solutions, formerly SmartSynch, contributed $5.5 million of operating expenses during the third quarter of 2012.

Operating Expenses - Nine months ended September 30, 2012 vs. Nine months ended September 30, 2011
For the first nine months of 2012, Energy operating expenses decreased $211.2 million, or 42%, compared with 2011, primarily due to the goodwill impairment of $216.1 million recognized in 2011, favorable foreign currency translation impact of $13.6 million during the nine months ended September 30, 2012, and scheduled decreases in amortization of intangible assets. These decreases were offset by increased sales and marketing and product development costs for development of new and enhanced products and $1.7 million in increased restructuring expenses. Operating expenses, excluding the goodwill impairment and restructuring, as a percentage of revenues were 23% for the nine months ended September 30, 2012, compared with 21% for the same period last year. Itron Cellular Solutions contributed $10.2 million of operating expenses since the acquisition on May 1, 2012.

Water:

Revenues - Three months ended September 30, 2012 vs. Three months ended September 30, 2011
Revenues decreased $5.2 million, or 4%, for the three months ended September 30, 2012, compared with the same period last year. Excluding the translation effect of a stronger U.S. dollar against most foreign currencies in the third quarter of 2012, as compared with the third quarter of 2011, revenues increased 5%. The increase was driven primarily by higher communication module shipments in North America, as well as increased product shipments in EMEA and Asia-Pacific.

No single customer represented more than 10% of the Water operating segment revenues in the three months ended September 30, 2012 and 2011.

Revenues - Nine months ended September 30, 2012 vs. Nine months ended September 30, 2011
Water revenues decreased $6.7 million, or 2%, for the nine months ended September 30, 2012, compared with the same period


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last year. The translation effect of foreign currencies to the U.S. dollar had an unfavorable impact of $26.9 million in the first nine months of 2012. Excluding the translation effect of a stronger U.S. dollar against most foreign currencies in the nine months ended September 30, 2012, revenue increased 5%. Sales increased in all regions with higher shipments of communication modules in North America and meters and systems in all other regions.

No single customer represented more than 10% of the Water operating segment revenues in the nine months ended September 30, 2012 and 2011.

Gross Margin - Three months ended September 30, 2012 vs. Three months ended September 30, 2011
Water gross margin increased to 36.6% for the three months ended September 30, 2012, compared with a gross margin of 24.9% for the same period last year, primarily as a result of $12.6 million in increased warranty costs in 2011 associated with a vendor-supplied component and a more favorable product mix in 2012.

Gross Margin - Nine months ended September 30, 2012 vs. Nine months ended September 30, 2011
For the first nine months of 2012, gross margin increased to 36.1% from 31.7% in the same period in 2011, primarily as a result of $12.6 million in increased warranty costs in 2011 associated with a vendor-supplied component. Gross margin for the first three quarters of 2012 was also favorably impacted by product mix and manufacturing efficiencies.

Operating Expenses - Three months ended September 30, 2012 vs. Three months ended September 30, 2011
Operating expenses for the three months ended September 30, 2012 decreased by $330.1 million over the third quarter of 2011. This decrease was the result of a goodwill impairment of $324.3 million recognized in 2011 and a recovery of $5.4 million in restructuring expense related to the goodwill allocated to a non-core business which was sold during the second quarter of 2012. Increases in sales and marketing and product development costs for smart and advanced meter products were partially offset by scheduled decreases in amortization of intangible assets and $2.8 million for the favorable foreign currency translation impact of the stronger U.S. dollar. Operating expenses, excluding goodwill impairment and restructuring expense, as a percentage of revenue, were 23% for the three months ended September 30, 2012 and 2011.

Operating Expenses - Nine months ended September 30, 2012 vs. Nine months ended September 30, 2011
Operating expenses decreased $325.4 million for the nine months ended September 30, 2012 compared with the same period in 2011. The significant decrease was the result of a goodwill impairment of $324.3 million in 2011. In 2012, increases in sales and marketing and product development costs for smart and advanced meter products were largely offset by scheduled decreases in amortization of intangible assets and $6.6 million for the favorable foreign currency translation impact of the stronger U.S. dollar. Excluding goodwill impairment and restructuring, operating expenses, as a percentage of revenue, were 24% and 23% for the nine months ended September 30, 2012 and 2011, respectively.

Corporate unallocated:

Operating expenses not directly associated with an operating segment are classified as "Corporate unallocated." These expenses decreased $2.6 million in the three months ended September 30, 2012, compared with the same period last year, due to lower corporate marketing and IT related spending. Corporate unallocated expenses increased by $3.5 million for the nine months ended September 30, 2012, compared with 2011. The increases were primarily due to acquisition related expenses for the SmartSynch acquisition of $3.0 million for the nine months ended September 30, 2012. In addition, we incurred approximately $3.4 million during the first nine months of 2012 for management training and development costs in connection with the implementation of our new organization and for preliminary planning costs, prior to application development, for our global enterprise resource planning (ERP) software initiative, which commenced in the third quarter of 2012. These increases in operating expenses were partially offset by lower corporate marketing and IT related spending.

Bookings and Backlog of Orders

Bookings for a reported period represent customer contracts and purchase orders received during the period that have met certain conditions, such as regulatory and/or contractual approval. Total backlog represents committed but undelivered contracts and purchase orders at period-end. Twelve-month backlog represents the portion of total backlog that we estimate will be recognized as revenue over the next 12 months. Backlog is not a complete measure of our future revenues as we also receive significant book-and-ship orders. Bookings and backlog may fluctuate significantly due to the timing of large project awards. In addition, annual or multi-year contracts are subject to rescheduling and cancellation by customers due to the long-term nature of the contracts. Beginning total backlog, plus bookings, minus revenues, will not equal ending total backlog due to miscellaneous contract adjustments, foreign currency fluctuations, and other factors.

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