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PART I
Item 1: BUSINESS
OVERVIEW
Itron, Inc. ("Itron" or the "Company") was incorporated in Washington
in 1977 and is a leading global provider to the utility industry of solutions
for collecting, communicating and analyzing electric, gas and water usage data.
The Company designs, develops, manufactures, markets, sells, installs and
services hardware, software and integrated systems for handheld computer-based
electronic meter reading ("EMR") and automatic meter reading ("AMR") systems.
Since the early 1980s, Itron has been the leading supplier of EMR
systems to utilities. These EMR systems allow meter readers using rugged
handheld computers to electronically record usage data for later downloading
into a utility's billing system. Today, Itron's EMR systems are installed at
over 1,500 utility customers in more than 40 countries and are being used to
read approximately 275 million meters worldwide. Itron's EMR systems are
installed at approximately 80% of the largest utilities in North America
(utilities with 50,000 or more meters), including 21 of the largest 25
utilities. EMR systems, products and services currently account for
approximately 25% of the Company's total revenues.
In the early 1990s, Itron expanded its product line to include AMR
systems and services. The Company estimates there are approximately 268 million
meters in North America, of which only approximately 15 million, or 6%,
currently have installed AMR technology. Outside North America, the Company
estimates there are two to three times that number of meters and minimal AMR
installations. The Company has shipped over 11.1 million AMR meter modules to
327 utilities as of December 31, 1997; it has thereby established itself as the
world's leading supplier of AMR systems. Seventy-two of these 327 utilities have
made a sizable commitment to Itron's AMR products by having installed at least
10,000 Itron AMR meter modules. AMR systems and services now represent
approximately 75% of the Company's total revenues.
The Company's AMR systems and products were initially developed to
enable utilities to reduce operating costs and improve quality of service and
are being expanded to provide a full range of utility and select non utility
related data management capabilities and communications-based options. The
Company believes its AMR product offerings in aggregate are more extensive than
that of any other AMR supplier. The Company's AMR systems and products support
electric, gas, water and combination utilities and include solutions for all
classes of utility customers--residential, commercial and industrial. The
Company's AMR solutions involve the use of radio and telephone technology to
collect meter data. The Company's radio-based AMR solutions include handheld
walk-by ("Off-Site"), vehicle-based drive-by ("Mobile") and fixed network
("Fixed Network") reading technology options. Each of the radio-based reading
options utilizes the same AMR meter module technology, which, therefore,
provides a migration path with compatibility from basic Off-Site AMR to more
advanced Mobile and Fixed Network systems. This compatibility allows Itron's
customers to initiate AMR installation on a limited number of meters with the
flexibility to expand to full-scale, system-wide implementation on a large
number of meters for which multiple AMR solutions may be required. The Company's
telephone-based AMR solutions complement its radio products and provide an
economically attractive alternative to radio in many situations. The range of
Itron's AMR product offerings enables its customers to deploy the solutions that
are the most effective in each portion of their service territory at the
appropriate time.
In 1997, the Company further broadened and enhanced its AMR product
line through internal development, acquisition and alliances. During 1997, the
Company acquired Design Concepts, Incorporated ("DCI"), an Idaho-based supplier
of outage detection, power quality monitoring and AMR systems that communicate
over telephone lines. The DCI acquisition has greatly expanded Itron's options
for electric customers. DCI's telephone-based AMR meter modules provide
attractive solutions for the most rural locations where distance makes
radio-based reads difficult to justify economically. DCI products may also be an
attractive alternative when Fixed Network functionality is required for meters
that are geographically dispersed, such as the customer base of energy service
providers in competitive electricity markets.
In the fourth quarter of 1997, the Company signed two agreements with
UK Data Collections Services ("UKDCS"), the operator of the meter data
collection system supporting the competitive electricity supply market in
England and Wales. One agreement provides the Company with exclusive marketing
rights in North America to the STAR Data Management System. The STAR system is
designed to handle very large scale metering systems where half-hourly or hourly
data is obtained from meters on a daily basis. With competition increasing, the
Company believes that the number of meters used to measure energy usage on an
hourly or other interval basis will grow. In a second agreement with UKDCS, the
Company has formed a jointly-owned company, STAR Data Services LLC, to provide
metering, data collection, load profiling, and settlement services to utilities
and energy service providers on a fee-for-service basis in North America. The
Company believes many companies will want a third party to perform metering and
data collection.
The Company made substantial progress in 1997 in its penetration of the
water utility market with an order for a multi-year Mobile AMR system from the
City of Philadelphia Water Department covering approximately 487,000 meters.
Upon completion, the Company believes this will be the largest water AMR
installation in the world.
In 1997, Itron, through UTS, its wholly owned subsidiary, was selected
by the California Independent System Operator ("ISO"), the entity which will
have operational control of the transmission grid in California's competitive
energy environment, to supply the grid's metering data collection software
system for California's power grid. The Company anticipates it will have similar
opportunities as regulatory reform unfolds in other states and power regions.
Also in 1997, UTS introduced a Power Billing System for complex revenue billing
and real-time pricing. This system allows utilities and power marketers to
support complex billing for large commercial and industrial customers, national
accounts, and aggregators (companies which purchase power for or on behalf of
many customers).
The Company made significant progress on its Fixed Network AMR
deployments in 1997 with the expansion of fixed network functionality by
year-end 1997 to more than 350,000 meters at Duquesne Light Company
("Duquesne"), up from approximately 5,000 meters at the beginning of 1997. See
"Description of Business--Duquesne Fixed Network AMR Contract." Itron was also
awarded its second large Fixed Network AMR order from Virginia Power to automate
approximately 450,000 of their two million meters.
Regulatory reform initiatives are causing significant changes in the
utility industry and have continued to cause some utility customers to delay
implementation of AMR technology. The Company believes that over the long term
regulatory reform and competitive pressures will motivate utilities to implement
AMR technology in order to improve service quality and operating efficiency as
well as to comply with the competitive and regulatory requirements for more
frequent collection of meter data. For example, the California Public Utility
Commission ( "CPUC") has mandated hourly time-of-use metering for all
electricity customers consuming more than 20 kWh. Additional new opportunities
for the Company may include the development of reconciliation systems for the
supply of power to, and purchase of power from, the electric power transmission
grids (such as the California ISO contract), sales of the large power billing
systems developed by UTS, meter reading outsourcing, and products to support
non-traditional utility applications such as energy management programs, home
automation systems and premise monitoring services such as home security.
The Company believes these regulatory reform initiatives will motivate
utilities and industry participants to seek a wide range of AMR alternatives to
address diverse requirements across service territories. The Company believes it
is well positioned to take advantage of the significant AMR market opportunity
because of its extensive product portfolio, significant experience in
high-volume AMR meter module production, established relationships with over
1,500 utilities worldwide, proven interfaces with numerous utility host billing
systems and advanced software for large commercial and industrial customers and
power exchanges.
DESCRIPTION OF BUSINESS
OVERVIEW OF CURRENT ENVIRONMENT IN THE UTILITY INDUSTRY
The electric utility industry is undergoing fundamental structural
changes. Current restructuring in the electric utility industry is focused on
opening the electric power generation industry to full competition and
ultimately providing retail customers access to multiple suppliers (referred to
as "direct access"). Similar to regulatory changes that have already occurred in
the transportation and telecommunications industries, customer demands and
regulatory mandates by state and federal governments are forcing utilities to
make the transition from regulated monopolies, in certain respects, into
competitive enterprises.
Federal legislation, such as the National Energy Policy Act of 1992
(the "EP Act"), eased restrictions on independent power producers in an effort
to increase competition in the wholesale electric power generation market and
authorized the Federal Energy Regulatory Commission ("FERC") to mandate
utilities to transport and deliver ("wheel") energy for a supplier of bulk power
to wholesale customers. On April 24, 1996, in a landmark ruling, FERC announced
two new rules (Order Nos. 888 and 889) designed to accelerate competition and
bring lower prices and more choices to energy consumers. Order No. 888 opened
wholesale power sales to competition by requiring public utilities to offer
nondiscriminatory pricing to all users of their transmission lines. Order No.
889, also known as the Open Access Same-time Information System ("OASIS") rule,
requires public utilities to obtain information about their transmission system
for their own wholesale power transactions, such as available capacity, in the
same way their competitors do--via OASIS on the Internet.
Under the EP Act, individual states have the sole authority to mandate
the wheeling of electric power to retail customers. While regulatory initiatives
vary from state to state, many involve the separation of certain functions
currently performed by utilities, including energy generation, transmission and
distribution (functional unbundling) and a shift from rate-of-return to
performance-based ratemaking or market-based pricing. Most states have
undertaken some form of regulatory reform. In California, the CPUC has mandated
retail wheeling effective March 31, 1998 for large commercial and industrial
customers and effective January 1, 1999 for all remaining customers. In
addition, in the May 1997 CPUC Decision No. 97-05-039 "Opinion on the Unbundling
of Revenue Cycle Services" the CPUC has also unbundled the functions of metering
and customer billing. This means that electricity customers in California will
be able to select their meter reading and billing provider in addition to their
electricity supplier. California, New York, Massachusetts, Michigan, New
Hampshire, Pennsylvania, Maryland, Delaware, Maine, Vermont, Arizona, Illinois,
Montana, Nevada, New Jersey, Oklahoma and Rhode Island have adopted legislation
or commission orders to mandate retail wheeling.
While utility companies may retain some, most or all of their
traditional functions, the Company believes that it is likely that some of these
functions will also be provided by new entities such as ISOs and energy service
providers ("ESPs"). Utilities may turn the operational control of certain of
their transmission facilities over to ISOs. ESPs are expected to provide both
electricity and natural gas to commercial, industrial and residential customers
and may, in some jurisdictions, perform meter reading and customer billing. To
date more than 250 parties have registered with the CPUC as ESPs. In addition to
ESPs, a number of new entities will likely emerge to provide metering and data
services. Such companies also may buy and sell electricity and may have to deal
with the frequent specification of prices and costs for the transference of
power. Thus, the Company's future customer base will likely be comprised of
traditional utility companies, ESPs and new market entrants. As such companies
emerge, the Company believes that the ability to measure the supply and use of
energy on a frequent basis will become increasingly critical and that the
electric service industry will be driven toward hourly or half-hourly usage and
pricing for certain customers.
The Company believes the advancement of regulatory reform initiatives
will motivate utilities and industry participants to increase operating
efficiencies, enhance service quality and offer services not traditionally
offered by utilities. In light of this, the Company believes industry
participants will require a variety of AMR alternatives to address diverse
characteristics across service territories which the Company believes will in
turn increase demand for its products.
ITRON SOLUTIONS
The Company believes it has an extensive and cost-effective portfolio
of AMR and data management solutions that provides utilities and other industry
participants with numerous options for responding to evolving operational needs,
marketing opportunities and regulatory reform requirements.
Broad Product Line Offering. Itron's core AMR meter module technology
has been adapted to read numerous types of electric, gas and water meters,
including the most common meter types made by major meter manufacturers. Itron's
broad product line enables utilities and other industry participants to perform
meter reading functions for themselves, as well as for other utilities or power
suppliers serving a particular geographic area. Itron's AMR solutions include
the use of both radio and telephone-based technologies and support all classes
of utility customers--residential, commercial, large commercial and industrial.
Itron's UTS products provide the data management software capabilities necessary
to handle the large volumes of data required by commercial and industrial
electricity customers and the emerging participants in the competitive supply of
electricity such as the ISOs.
Low Cost Provider. The Company has shipped more than 11.1 million meter
modules since 1987 and is the AMR industry's most experienced meter module
provider. The Company believes that its low AMR meter module production costs
allow it to offer utilities economically attractive AMR solutions. The Company
made substantial investments in high-speed manufacturing automation and test
equipment in 1996 to further strengthen its position as a low-cost provider of
meter modules.
Technology Migration Pathways. The Company's radio-based AMR solutions
encompass Off-Site, Mobile and Fixed Network reading technology options. Because
the same AMR radio meter modules can be used with any of these alternatives, the
Company's products facilitate the migration from one level of systems automation
to another. This flexibility means that utilities can begin to achieve immediate
economic benefits from their initial investments in AMR systems, which systems
can be the foundation for future AMR solutions.
Data and Systems Integration. The Company has developed software
applications that integrate data from various data collection systems. This data
integration provides utilities the flexibility to deploy different data
collection technologies in different portions of their service territories,
depending upon economic and functionality requirements, while integrating the
data into a common format. Itron has also developed interfaces to over 1,500
utility billing systems worldwide, enabling smooth transition of collected data
to billing.
Nationwide Radio Spectrum and Intellectual Property Rights. The Company
has been issued a renewable nationwide U.S. Federal Communications Commission
("FCC") license to operate in the 1427-1429 MHz band, providing it with the
radio frequency spectrum to operate its Fixed Network AMR components (exclusive
of current generation meter modules) throughout the United States. Itron
believes the spectrum available under this license is adequate to meet the
spectrum requirements for Fixed Network AMR and the requirements for a
substantial implementation of advanced utility functionality, as well as certain
other applications. Itron also owns what it believes to be a significant patent
relating to network-based AMR that provides it with numerous options for further
AMR deployment, including licensing its technology to others.
Multiple Financing Solutions. The Company facilitates alternative ways
in which to finance AMR technologies. The Company sells products, outsources
entire systems, provides installation, operations, or maintenance services, and
arranges customized financial solutions for its customers. These customized
financial solutions vary from simple third party leases to complex non-recourse
project financing structures depending on the financial and operational goals of
the Company's customers.
Benefit Optimized Deployment. The range of AMR solutions offered by the
Company enables its customers to deploy the solutions that are the most cost
effective in each portion of the utility's service territory. The Company has
developed a conceptual and analytical methodology--termed "Benefit Optimized
Deployment"--which facilitates a potential AMR customer's comprehensive and
quantified analysis of the question: "What technology, where and when?"
ITRON'S STRATEGIES
Itron's strategy is to be a leading provider of AMR solutions to the
utility industry and to maintain over time the broadest portfolio of
cost-effective AMR and related solutions. Following are key elements of the
Company's strategy:
Provide Cost-Effective Meter Reading Solutions. The Company offers a
broad range of meter reading solutions that allow utilities to realize immediate
cost savings through automation of their meter reading function. Investments in
the Company's core business products (EMR, Off-site and Mobile AMR) enable
utilities to convert recurring operating expenses of meter reading into
strategic investments that provide a migration path to Itron's Fixed Network AMR
solution and facilitate customer retention by enabling utilities to offer value
added services.
Expand Fixed Network AMR Technology and Installations. The Company is
committed to delivering Fixed Network AMR solutions and believes that the demand
for fixed network AMR will continue to grow as electric utilities increasingly
focus on the consequences of competition brought on by regulatory reform. The
Company believes utilities will deploy wireless fixed network AMR or
telephone-based AMR in certain parts of their service territories where frequent
reads and other advanced meter reading functionality are required. The Company
believes that radio-based fixed network AMR is the lowest-cost manner in which
to provide frequent, time-critical meter reads for a large meter population. The
Company believes that telephone-based AMR is the most cost effective solution
for interval measurement in a base of geographically dispersed meters or rural
meters.
Expand Selective Deployment Solutions and Installations. The Company
expanded its AMR product offering for selective deployment, or drop-in,
solutions with the acquisition of DCI in 1997. The Company intends to further
develop telephone-based technologies that can be selectively deployed for direct
access customers, regional or national accounts or selective clustering of
installations for aggregation purposes. The solutions include DCI
telephone-based AMR products for electric customers, Metscan telephone-based AMR
products for gas customers and telephone-based products read by MV-90 for
commercial and industrial electric and gas customers.
Develop, Enhance and Deploy Products to Serve Large Commercial and
Industrial Markets. The Company intends to continue to broaden its AMR product
line for large commercial and industrial customers, which represent on average
approximately 35% of an electric utility's total revenues. This includes further
enhancements and deployment of the UTS power billing system with utilities and
power marketers who must support complex billing for large commercial and
industrial customers, franchise operations, national accounts and aggregators.
The Company will also continue to expand and modify for use in the United States
its software currently used in the United Kingdom and California for
reconciliation of power provided to, and withdrawn from, electric power
transmission grids. The Company intends to continue interfacing UTS software
with the Company's other AMR products and adapting and integrating certain
aspects of the Company's international fixed network solutions for large
commercial and industrial customers.
Develop New Relationships for Delivery of AMR Services. The Company
intends to expand its meter reading services through joint ventures with
partners that bring unique experience and strengths which complement the
Company's core competencies, such as the STAR Data Services joint venture with
UKDCS.
Build Upon Extensive Customer Base and Industry Experience. Itron has
established itself as the world's leading supplier of AMR systems as a result of
its having shipped more than 11.1 million AMR meter modules to 327 utilities as
of December 31, 1997. The Company's EMR systems have been installed at over
1,500 utilities in more than 40 countries and are being used to read
approximately 275 million meters worldwide. Further, the Company's handheld EMR
systems have been installed at approximately 80% of the utilities in North
America that have meter populations greater than 50,000. The Company believes
that its extensive customer base, long-term relationships with its customers and
proven interfaces with numerous utility host billing systems provide a solid
foundation upon which the Company can expand its product offerings and services
to existing utility customers, as well as new utility customers and other
industry participants.
Pursue Opportunities for Related Non-utility Applications. The Company
is working with strategic partners and others on the development of its AMR
systems and products in order to support non-utility services. These services
could include premise automation and monitoring services such as security and
alarm services, remote status monitoring of propane tanks or other energy
sources and energy management solutions.
AUTOMATIC METER READING SYSTEMS AND PRODUCTS
The Company's AMR product line involves the use of radio and telephone
technology to collect meter data. The Company's radio-based AMR solutions
encompass Off-Site AMR, Mobile AMR and Fixed Network AMR, as well as a variety
of supporting services and products. Due to the geographic features and varying
population density of a utility's service territory, generally no single meter
reading solution is ideally suited to all parts of the utility's service
territory. Itron's AMR applications are intended to provide flexibility ranging
from selective installation for high cost-to-read meters or geographically
dispersed meters requiring advanced metering functionality, to full
implementation of an AMR system covering a large portion of a utility's service
area. This flexibility enables the Company's customers to achieve immediate
economic benefits from their initial investments in the Company's AMR systems,
while enabling migration to a more comprehensive AMR solution in the future.
Meter Modules. The Company's AMR product offerings are based on a
family of meter modules. These meter modules, which can be easily attached to
utility meters, encode consumption and tamper information and transmit this
data, including meter module identification, to a remote receiver. The Company
intends to continue to expand its meter module offerings through development of
meter modules that read additional meter types, as well as development of
modules with differing capabilities that will enable utilities to use the most
cost-effective module for a particular meter reading need. In 1997, the Company
developed and released a variety of new meter modules for electric, gas and
water meters. For electric meters, two new modules were released. The new 41
series meter modules provide a new low-cost solution while the new 45 series
meter modules provide certain advanced functionality. The Company also enhanced
its compatibility with indoor water meters and introduced the 40W-1 below ground
level pit-set water meter module which is compatible with many pit-set water
meters in the United States.
The Company began shipping its radio meter modules to customers in late
1986. Itron has expanded the core technology of its radio meter modules to read
the most common types of electric, gas and water meters. The Company's compact
radio meter modules for gas and water meters are self-contained low-power units,
powered by long-life batteries with an expected minimum life in excess of ten
years. Radio meter modules for electric meters which are normally integrated
under the glass of standard residential meters, are electricity line powered and
do not require batteries. Radio meter modules can be installed by the meter
manufacturer during the manufacturing process or easily retrofitted in existing
meters.
In addition to its radio meter modules, the Company also offers
electric and gas utilities telephone-based AMR products with its DCI product
line for electric utilities and Metscan product line for gas utilities. For
residential and commercial applications, the Company's DCI meter modules attach
under the glass of electric meters and collect and report consumption, interval
based time-of-use and demand and load profiling data. In addition, certain DCI
modules also report power outages, restoration of power and power quality
information. For commercial and industrial applications, the Company's Metscan
meter modules attach to large-volume gas meters and collect consumption and
interval-based time-of-use data used to bill transport gas and interruptible gas
customers, as well as critical load survey data for applications such as peak
day forecasting, supply forecasting and assessments, rate design and marketing.
For residential applications, including hard-to-read meters, Metscan modules are
attached to existing or new residential gas meters to provide consumption and
load survey data.
In addition to AMR modules attached to meters, the Company offers
telephone-based modules which are installed inside customer premises to monitor
and report power outages and restoration of power, power quality (under and over
voltages) and connections to selective circuits or contact closures inside the
premise, such as circuits for refrigeration or HVAC equipment.
The Company also offers a separate line of meter modules for use
outside North America. The primary differences between the meter modules used by
the Company in North America and those used in international markets are the
radio frequency band in which they operate and the physical configuration of the
module. In addition, the Company has developed meter module technology to
address opportunities available in international markets that are not present in
North America. For example, in certain European countries usage of steam and hot
water produced by a central facility for residential heating is metered using
devices known as "heat allocators" located on radiators. The Company has
developed a radio-based meter module that enables remote collection of data
recorded by heat allocators, eliminating the need to access each radiator in
order to collect consumption data.
Off-Site Meter Reading. The Company's Off-Site AMR solution enables
radio-equipped meters to be read remotely, by a person up to 1,000 feet away,
with a handheld computer equipped with a radio unit. Off-Site AMR offers a
practical and cost-effective way for utilities to read high cost-to-read meters
by eliminating the need for meter readers to gain visual access to those meters.
Once a utility has upgraded its Itron handheld computers with radio technology,
it can selectively install meter modules on high cost-to-read meters. System
software automatically identifies radio-equipped meters within a route. When
remote reads are needed, the system prompts the meter reader to initiate the
wireless remote read. Meter information is shown on the handheld display and is
automatically recorded in the handheld database, allowing the meter reader to
move on to the next meter on a route. When a route is completed, data from both
visual and radio reads are uploaded from the handheld computer to the utility
host system for customer billing. The benefits from Off-site AMR include
short-term payback from the meter reading productivity improvements allowing
some meter readers to read up to three times as many meters per day. Another
major benefit from Off-site AMR is greatly improved meter reading safety by
installing meter modules on the most hazardous meter locations.
Mobile AMR. The Company's Mobile AMR solution uses a Data Collection
Unit ("DCU") mounted in a vehicle to collect and store data transmitted by meter
modules as the vehicle passes module-equipped meters. The DCU receives
information transmitted by multiple meter modules simultaneously. A touch-screen
display enables the operator to observe and operate the DCU. The Mobile AMR
application includes software that manages and moves information to and from a
utility's billing system. Once installed, the software transfers information
from the host system to create route files for the DCU for each route, manages
the storage of the meter data as it is collected and, at the end of the day,
uploads the information to the utility's billing system. A Mobile AMR system
enables an operator to read an average of approximately 10,000 meters in an
eight-hour day, compared to an average walking route of 300 to 500 meters per
day. Factors affecting the actual number of reads per day include, among others,
route density and design, speed limits, weather and environment. As in the case
of Off-site AMR, Mobile AMR also improves meter reader safety by removing the
need for meter readers to gain visual access to meters in dangerous
environments.
Fixed Network AMR. Itron's Fixed Network solution provides utilities
with the capability of completely automating meter reading in desired segments
of a utility's service area and thereby eliminating the need to send meter
readers to or near customer premises. Ten of the Company's North American AMR
customers have pilot installations of the Company's Fixed Network AMR system.
Under a contract with Duquesne, the Company is installing a Fixed Network system
that was reading over 350,000 meters on a daily basis as of December 31, 1997
and, when fully installed, will cover approximately 615,000 meters. See
"Duquesne Fixed Network AMR Contract." Under a contract with Virginia Power, a
Fixed Network system is currently being installed, and when expansion is
complete will cover approximately 450,000 meters. The Company's Fixed Network
technology provides utilities with a number of utility-related applications,
including daily or more frequent meter reads, time-of-use pricing, on-request
meter reads for final reads or customer inquiries, tamper monitoring and
reporting, high-level outage detection and power restoration reporting, load
profiling and virtual connect/disconnect capabilities.
Meter data collected by the Company's radio meter modules is
transmitted to a Cell Control Unit ("CCU"), which is a neighborhood
communications controller. The CCU performs memory and computational functions,
in addition to functioning as a radio receiver and transmitter. Weighing
approximately 15 pounds, Itron's CCU can be easily installed on utility poles,
street lights, or other locations. While the geographic area covered by each CCU
varies depending on local topography, physical structures, terrain and other
factors, in general the Company expects each CCU to serve an average of 50
homes. Information collected by CCUs is then transmitted to a Network Control
Node ("NCN"), which is the primary routing and control device for the Fixed
Network. The Company expects that each NCN will typically support approximately
500 CCUs. NCNs manage information routing in the network between CCUs and the
system host processor and can serve as a gateway to other communication
networks. Communications between the CCUs and NCNs utilize the Company's
nationwide licensed frequencies in the 1427-1429 MHz band.
The final link in Itron's Fixed Network is from the NCNs to one or more
host computers, known as Genesis Itron Host Processors ("GIHPs"). The GIHP is an
open-architected control computer and database management system that provides
network control and advanced AMR functionality, and acts as the interface to the
Fixed Network from other utility systems. The GIHP provides a Standard Query
Language ("SQL") database server to utility host billing and operating systems.
Communications between NCNs and the utility's GIHP typically utilize radio,
telephone, frame relay or other wired communication media.
The Company made substantial investments in development of its Fixed
Network in 1996 and 1997 and expects to continue to devote a significant portion
of its product development spending in 1998 to Fixed Network and associated
meter module and software application development. Current product development
efforts are focused on performance enhancements and additional functionality.
See " Product Development."
Telephone-Based Technology. The Company's DCI products allow electric
utilities to implement telephone-based AMR solutions. Modules can be programmed
to collect various types of meter reading data including standard consumption,
time-of-use, demand and interval data for load profiling. DCI systems use
inbound communications in which the meter modules call in to the utility's
central processing computer at pre-scheduled times to report meter reading
information. The devices are connected to and share existing customer telephone
lines. DCI AMR functionality is designed for selective deployments of direct
access customers or for geographically dispersed customers requiring advanced
metering functionality such as regional or national accounts. DCI technology may
also be used to automate areas not suited for cost effective implementation of
radio technologies such as remote or rural areas.
DCI also provides other telephone-based devices that monitor and report
power outage, restoration and power quality (over/under voltage) information.
The devices are easily installed by the end-use customer. The devices may be
deployed at key locations throughout a utility's distribution system to improve
operations, enhance power quality and improve overall system reliability and
service by allowing utilities to isolate outages and determine when power has
been restored more quickly.
Metscan products are the telephone-based AMR counterpart for gas
meters. Devices can be configured to store daily or hourly consumption data for
monthly or daily transportation tariffs. Metscan products provide many of the
same implementation benefits to gas customers that DCI products provide to
electric customers including "drop-in" deployment in areas not suited for cost
effective implementation of radio-based solutions.
EMR HANDHELD SYSTEMS AND PRODUCTS
Itron's handheld systems allow utilities to automate a substantial
portion of their meter reading and billing functions. Itron provides five basic
models of handheld computers to meet the varying requirements of its utility
customers. Each model is designed for use in harsh environments with standard
text and graphics, backlit displays, several memory sizes, multiple
communications options, interface devices for electronic meters and easy to use
keyboards that can be customized for the needs of the utility customer.
Handheld systems are used as follows: (1) key customer data is
downloaded from an Itron host processor to an Itron handheld computer prior to
commencement of a meter reader's daily route; (2) a meter reader visually reads
meters along a route and enters readings into an Itron handheld computer; and
(3) after a meter reader's daily route has been completed, collected data is
uploaded directly into a utility's host billing system. Itron's family of
software systems provides data consolidation and storage, reformatting, linkage
to a utility's host billing system, meter reading route management, route
downloading and time-of-use and interval data recording data management and
distribution.
COMMERCIAL AND INDUSTRIAL SOFTWARE PRODUCTS AND SERVICES
Commercial and industrial meters have much more sophisticated
measurement capabilities than do meters for residential customers and,
therefore, have much more data that must be conveyed back to a utility from the
meter. There is a wide variety of these meters with no standards for
communications agreed upon by the multiple meter vendors. The Company's UTS
subsidiary is the leading provider in the United States of software systems for
metering data acquisition and analysis for the large commercial and industrial
customers of electric and gas utilities. UTS also has systems installed in about
20 countries outside the United States. The key to UTS's development of the
commercial and industrial products and services market has been its
establishment of strategic relationships with meter suppliers around the world
to solve the problem created by the absence of a standard communication
protocol.
UTS's Multiple Vendor Data Collection and Analysis System ("MV-90")
supports communication protocols for almost all the large commercial and
industrial electric and gas meter suppliers in the United States and Europe.
UTS's multi-vendor data retrieval and analysis systems support all methods of
data retrieval from large commercial and industrial meters (handheld readers,
telephone and other communication technologies). MV-90 was designed with a full
range of applications software to support data collection from meters, data
validation and editing and analysis of energy usage data. MV-90 software can be
licensed for use on single computers and on local/wide area networks. In
addition to the base system there are layered application packages that support
applications such as load research, real time pricing (hourly price transmission
to commercial and industrial customers), gas transportation and interruptible
rates (notification and control of loads at large commercial and industrial
customers).
UTS has capitalized on a specialized market within the electric utility
industry and now supplies MV-90 software for revenue billing, load research and
demand-side management to approximately 70% of the major utilities in the United
States and to most of the electric and gas utilities in Canada, Europe, the
Middle East, Australia, Central America and South America. The Company estimates
that approximately 35% of the $250 billion annual revenues billed by the
electric utility industry in the United States is billed using data collected by
MV-90 software systems.
The Company believes that competition in the utility industry will
drive metering technology and systems toward enhancing and facilitating
communications between large commercial and industrial customers and their power
suppliers. UTS has developed a "read only" version of the MV-90 software which
allows the commercial and industrial customers to read the utility's delivery
point meters (both electric and gas) on a frequent basis to analyze their own
energy consumption. This software can also receive hourly pricing data from the
energy supplier for customers who purchase power on a real-time pricing basis
(price varies by the hour). It also supports load curtailment with messaging to
notify larger commercial and industrial customers. Such read-only, real-time
pricing, and load control software applications are sold to commercial and
industrial customers by the marketing departments of various utilities.
In 1997, UTS completed development of and delivered a new product
called large Power Billing System ("MV-PBS") targeted to utilities and power
marketers that supports complex billing for large commercial and industrial
customers, franchise operations, national accounts and aggregators. MV-PBS
allows utilities and other energy suppliers to bill energy and related services
sold under complex contracts, where each contract for products and services may
be unique to that customer. The current legacy billing systems used by most
utilities were designed for large volume, rate class billing with very little
flexibility to bill complex contracts required for unbundling of power
(generation, transmission and distribution), as well as new products such as
real-time pricing and retail wheeling. The MV-PBS is used in a client-server
environment and is fully integrated with UTS's MV-90 multi-vendor data
collection system.
During 1997, the Company acquired the exclusive distribution rights in
North America for the STAR Data Management System ("STAR"). STAR was developed
by UKDCS, the operator of the meter data collection system supporting the
competitive electricity supply market in England and Wales. When integrated with
MV-90, STAR provides the ability to manage the large volumes of hourly or other
interval data which the Company believes will be increasingly required in the
competitive electricity markets.
As the electric utility industry is restructured in certain
jurisdictions, the metering function of the generation/transmission/distribution
systems used for billing and settlement functions will sometimes be managed by
independent entities such as power exchanges and ISOs. UTS currently supplies
software to collect the metering data for the power exchanges in the United
Kingdom, Australia and New Zealand. In 1997, UTS was selected by the California
ISO, the entity which will have operational control of the transmission grid in
California's competitive energy environment, to supply the grid's metering data
collection software system. UTS is in an excellent competitive position to also
supply software to states such as New York, Pennsylvania, Michigan and others as
they establish similar power exchange/independent system operations to manage
the deregulated power supply industry in their states.
JOINT VENTURE SERVICES
The Company has entered and expects to continue to enter into a number
of joint ventures or alliances with utility industry participants including
utilities and nonregulated utility entities, among others. These alliances and
joint ventures offer and are expected to offer a wide range of services, such as
AMR meter module and Fixed Network component installation, AMR outsourcing,
Fixed Network-based information services, meter reading services and development
of additional applications to maximize the benefit and use of Itron's AMR
product offerings.
Currently the Company has three active joint ventures:
* SI3 - a 50/50 joint venture between the Company and Firstpoint Utility
Solutions, Inc. (a wholly owned subsidiary of Enron), which primarily
offers AMR equipment installation services nationwide.
* EnSite - a 50/50 joint venture between the Company and Duquesne
Enterprises, which provides for AMR outsourcing to utilities in and around
Duquesne's service territory and the resale of Itron products.
* STAR Data Services - a 50/50 joint venture between UTS and UKDCS which
will provide metering, data collection, load profiling and settlement to
utilities and ESPs on a fee-for-service basis in North America. STAR Data
Services will be primarily focused on large commercial and industrial
accounts.
DUQUESNE FIXED NETWORK AMR CONTRACT
In January 1996, the Company entered into a contract with Duquesne for
the Company to install, operate and maintain a Fixed Network AMR system and
provide meter reading and advanced communication services to Duquesne over a 15
year period. In September 1997, the Company signed an amendment to the contract
which modified both the scope of the services provided and the corresponding
project schedule, (the "Duquesne Contract"). The Duquesne Contract is currently
in "Phase II," the network construction phase. Of a total of approximately
615,000 meter modules to be installed, at December 31, 1997 approximately
550,000 modules had been installed. Installation of all remaining meter modules
for which Itron is responsible is expected to be competed by the fourth quarter
of 1998.
The Duquesne Contract contains numerous milestones, some of which are
"critical" milestones and carry significant monetary penalties. The Company has
received acceptance from Duquesne on the completion of the first critical
milestone which required the Company to provide daily reads for at least 350,000
meters over the Company's Fixed Network and to deliver certain software
applications on the network. The Company has in the past missed some milestones.
In March 1998, the Company missed a non-critical milestone related to the
installation of network equipment and software and paid a $100,000 penalty to
Duquesne. Several future milestones remain, including two critical milestones in
the second quarter of 1998. Should the Company fail to meet both of these
remaining critical milestones, Duquesne would be entitled to monetary penalties
totaling approximately $15 million. The Company and Duquesne are currently in
negotiations to further amend the project schedule and corresponding remaining
milestones. The Company believes it will successfully amend the contract and
fully satisfy these amended remaining critical milestones. See "Certain Risk
Factors--Dependence on the Installation, Operations and Maintenance of AMR
Systems Pursuant to Outsourcing Contracts" and "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Results of
Operations." For information on revenue recognition for outsourcing contracts,
see Note 1 to the Company's Consolidated Financial Statements.
CUSTOMERS
Itron has established itself as a leading supplier of handheld EMR
systems and AMR meter modules for the AMR market. The Company believes that its
extensive customer base, long-term customer relationships and experience in
meeting the needs of the utility industry provide a solid foundation from which
it can supply additional products and services to its existing customers, as
well as new utility customers and other industry participants.
Itron's EMR systems are installed at over 1,500 electric, gas, water
and combination utilities in more than 40 countries and are being used to read
approximately 275 million meters worldwide. Itron's EMR systems are installed at
approximately 80% of the largest utilities in North America (those utilities,
with greater than 50,000 customer meters). As a result of the high market
penetration the Company has already achieved in the United States, domestic EMR
sales are expected to be predominantly system upgrades and replacements. The
Company estimates that the number of meters outside North America is
approximately two to three times the number of meters in North America. Because
utilities in many industrialized countries outside North America are only now
beginning to automate their meter reading function, the Company believes that
international markets represent a growth opportunity for sales of its EMR
systems.
The Company has established itself as the world's largest supplier of
meter modules for the expanding AMR market as a result of having shipped over
11.1 million meter modules as of December 31, 1997. During the year ended
December 31, 1997, the Company shipped a record 2.7 million AMR meter modules
and added 58 utilities to its list of AMR customers, bringing the total number
of the Company's AMR customers to 327 utilities, including 39 utilities located
outside the United States. Seventy-two of Itron's 327 AMR customers have made a
sizable commitment to Itron AMR products by having each ordered and installed at
least 10,000 of the Company's meter modules as of December 31, 1997. These 72
customers account for 95% or 10.5 million of the 11.1 million meter modules
shipped by the Company.
The Company has installed the world's largest AMR system for Public
Service Company of Colorado ("PSCo"), with currently over 1.5 million meter
modules. This system is being read with Mobile AMR technology. The Company also
is in the process of installing what it believes is currently the world's
largest radio-based water AMR system with the City of Philadelphia Water
Department. When complete, this Mobile AMR system will automate the meter
reading of approximately 487,000 water meters in Philadelphia.
In addition, the Company has two large scale Fixed Network deployments
and ten Fixed Network AMR pilot installations in North America. The Company is
in the process of installing a Fixed Network system for Duquesne that is
currently reading over 395,000 meters daily and, when fully installed, will
cover approximately 615,000 meters. See "Duquesne Fixed Network AMR Contract."
In addition to the Duquesne Fixed Network, the Company is installing a Fixed
Network system at Virginia Power that will cover approximately 450,000 meters;
approximately 70,000 meters have been installed to date.
SALES, DISTRIBUTION AND MARKETING
Itron utilizes a direct sales and technical support team to serve its
major accounts, with sales and technical support offices located in a number of
cities throughout the United States. For smaller utilities and municipalities in
North America, Itron conducts sales and support activities through numerous
distributors. As of January 31, 1998, the Company's North American direct sales
force was comprised of 17 account executives and four vice presidents, who are
supported by five sales engineers. In addition, the Company's direct sales force
includes four officers who are responsible for managing the Company's
relationships with its approximately 30 distributors. Outside North America, the
Company maintains direct sales organizations within subsidiary operations in the
United Kingdom, France and Australia. To reach the broader international market,
the Company conducts sales through distributors in approximately 45 other
countries.
In addition to direct sales and sales through distributors, the Company
makes electric and water meter modules available to utilities through original
equipment manufacturer ("OEM") arrangements with several major meter
manufacturers, which incorporate the Company's meter modules at their own
facilities into new meters. The Company intends to enter into additional OEM or
other similar arrangements if it has attractive opportunities to do so. Further,
the Company has licensed certain aspects of its meter module technology to
Schlumberger Ltd. ("Schlumberger") and may enter into additional licensing
agreements with other meter manufacturers or other industry participants in the
future.
The Company also offers its products and services through long-term
outsourcing arrangements, which may include providing AMR products, system
installation, meter reading services, meter shop services and other services for
periods of typically 15 years or longer. Outsourcing arrangements can be
structured in a variety of ways to address a utility's specific needs; these
range from providing basic meter reading systems and services to providing
systems and services with advanced functionality. The Company offers these
services to utilities directly and through joint ventures with utilities and
other industry participants. Currently the Company has two outsourcing
arrangements. See "Certain Risk Factors--Dependence on the Installation,
Operations and Maintenance of AMR Systems Pursuant to Outsourcing Contracts."
Key components of the Company's sales and marketing strategy are to
provide utilities with cost-benefit analyses of potential purchases of the
Company's products and to help utilities design a deployment strategy for the
Company's products that will optimize the benefits realized by the utility. See
"Itron's Strategies--Provide Cost-Effective Meter Reading Solutions." The
Company believes that the relatively short cost recovery period for deployment
of Off-Site and Mobile AMR systems, particularly on hard-to-read meters, makes
an investment in such technology an attractive solution for a utility's meter
reading needs, despite uncertainty caused by industry consolidation and
regulatory reform. The Company's marketing program also emphasizes the diversity
and flexibility of its product line and the Company's ability to offer total
product solutions to each of its utility customers, including a combination of
radio and telephone-based technologies.
The Company's other marketing efforts focus on product awareness
principally through trade shows, symposiums, published papers and direct mail.
These marketing efforts include brochures, newsletters, exhibits, conferences,
an annual user's forum, industry standards committee representation and
regulatory support. Several major industry conferences are keystones in the
Company's marketing program, including the Distribution Automation/Demand Side
Management Conference held every January, the Company's Annual Users Conference
held every June in conjunction with the National Meter Reading Association
meetings and the Automatic Meter Reading Association conference usually held in
September. The Company maintains communications with its customers through its
Users Advisory Board and its Fixed Network Advisory Group and a program of
regular mailings, newsletters and new customer announcements.
CUSTOMER SERVICE AND SUPPORT
Itron provides its utility customers with implementation services that
include among other things, system design, installation, training and project
management. Each of these services is tailored to meet a particular customer's
needs. In addition, for Fixed Network systems, the Company offers network
design, propagation analysis, mapping support, centralized operation and system
support. Itron offers system maintenance and support services to each of its
customers. Service contract prices are based on a number of factors, including
system size and complexity and the expected degree of service support required.
The Company's system maintenance and support services include 24-hour, toll-free
hot line support, customer service representatives, consulting services,
regional training programs, equipment repair and preventative maintenance,
software support and maintenance, system troubleshooting and network management
services.
COMPETITION
Although the Company is the industry leader in sales of AMR meter
modules and AMR systems and services to the utility industry, it faces
competition from a variety of companies in each of the markets it serves. The
emerging market for Fixed Network AMR systems for the utility industry, together
with the potential market for other applications once such Fixed Network systems
are in place, have led communications, electronics and utility companies to
begin developing various systems, some of which currently compete, and others of
which may in the future compete, with the Company's Fixed Network AMR system.
These competitors can be expected to offer a variety of technologies and
communications approaches, as well as meter reading, installation and other
services to utilities and other industry participants.
In the radio-based Fixed Network AMR market, for example, companies
such as CellNet Data Systems, Inc. ("CellNet") and Whisper Communications
("Whisper") currently offer alternative solutions to the utility industry and
compete aggressively with the Company. The Company believes that several large
suppliers of equipment, services or technology to the utility industry have
developed or are currently developing competitive products for the AMR market.
For example, Schlumberger and Asea Brown Boveri currently offer alternative
solutions and could expand their current products and services. Enron has
announced their intention to utilize radios developed by Motorola, and network
transmission services from MTel (a national two-way paging supplier) to provide
AMR residential products and services.
The Company believes that it enjoys a number of competitive advantages.
The Company believes the diversity of its AMR product line is broader than that
of any other AMR provider. This diversity gives the Company the ability to
provide comprehensive solutions to its customers. The Company's radio-based AMR
solutions utilize the same AMR radio meter modules and facilitate the migration
from one level of systems automation to another. The Company believes that it is
able to price its AMR meter modules competitively as a result of its highly
automated manufacturing lines as well as high production volumes. The Company
has a substantially larger installed base of handheld-based EMR systems and AMR
meter modules than any of its competitors which gives it the advantage of a
proven record of providing cost-efficient, quality products and services and the
proven ability to interface meter data with a wide variety of utility host
billing systems. In addition, the Company believes that its nationwide license
of 1-2 MHz of spectrum in the 1427-1429 MHz band is a competitive advantage. See
"FCC Regulation."
Many of the Company's present and potential competitors have
substantially greater financial, marketing, technical and manufacturing
resources, as well as greater name recognition and experience than the Company.
The Company's competitors may be able to respond more quickly to new or emerging
technologies and changes in customer requirements or to devote greater resources
to the development, promotion and sale of their products and services than the
Company. In addition, current and potential competitors may make strategic
acquisitions or establish cooperative relationships among themselves or with
third parties that increase their ability to address the needs of the Company's
prospective customers. Accordingly, it is possible that new competitors or
alliances among current and new competitors may emerge and rapidly gain
significant market share. There can be no assurance that the Company will be
able to compete successfully against current and future competitors, and any
failure to do so would have a material adverse effect on the Company's business,
financial condition, results of operations and cash flow. See "Certain Risk
Factors--Competition."
PRODUCT DEVELOPMENT
The Company's product development efforts are focused on further
expanding and upgrading AMR product offerings and developing new hardware and
software platforms for handheld systems. The Company has product development
facilities located in Spokane, Washington; Lakeville and Waseca, Minnesota;
Raleigh, North Carolina; Boise, Idaho; and Saratoga, California. It also
conducts some development activities in each of its foreign subsidiaries. The
Company has maintained its leadership position in part because of its commitment
to new products and continued enhancement of existing products. The Company
spent approximately $32.2 million in 1997, $33.3 million in 1996, and $27.1
million in 1995 on product development.
The Company expects to continue to invest substantial amounts on new
product development for the foreseeable future as it continues to expand and
enhance its AMR and other product offerings. Utilizing its broad knowledge of
the utility industry and the regulatory environment, the Company prioritizes its
product development opportunities to attempt to satisfy current customer needs
on a timely basis. In the last two years, a significant portion of the Company's
product development spending has been for development of its Fixed Network
technology. The Company expects that the largest categories of its future
product development expenditures will be: (1) continued improvement and
expansion of Fixed Network product offerings including cost reduction programs;
(2) expansion of meter modules in terms of meters served as well as
functionality; (3) and development of data management applications and systems
integration.
The Company's future success will depend in part on its ability to
continue to design and manufacture new competitive products, as well as to
continue to enhance its Fixed Network and other AMR products. There can be no
assurance that the Company will not experience unforeseen problems or delays
with respect to its product development efforts. Delays in the availability of
new and enhanced products could have a material adverse effect on the Company's
business, financial condition and results of operations. See "Certain Risk
Factors--Dependence on New Product Development."
INTELLECTUAL PROPERTY
Itron owns or licenses numerous United States, Canadian and foreign
patents and has filed various patent applications. These patents cover a range
of technologies for meter reading, portable handheld computer and AMR-related
technologies. In September 1996, the U.S. Patent and Trademark Office issued to
the Company what the Company believes to be a very significant patent for
radio-based network AMR systems. On October 3, 1996, the Company brought an
action in the United States District Court for the District of Minnesota against
CellNet claiming infringement of this patent. The discovery phase of this
proceeding is underway. See "-Legal Proceedings." The Company also relies on
copyrights to protect its proprietary software and documentation. The Company
has registered trademarks for most of its major product lines in the United
States and many foreign countries.
While the Company believes that its patents, trademarks and other
intellectual property have significant value, there can be no assurance that
these patents or trademarks, or any patents or trademarks issued in the future,
will provide meaningful competitive advantages. The Company believes that its
continued success will be based on continued excellence and innovation, market
knowledge, technical and marketing capabilities, existing product relationships
with utilities and a fundamental commitment to customer service excellence. See
"Certain Risk Factors--Intellectual Property."
FCC REGULATION
Certain of the Company's products made for use in the United States use
radio frequencies, the access to and use of which are regulated by the FCC
pursuant to the Communications Act of 1934, as amended. In general, a radio
station license issued by the FCC is required in order to operate a radio
transmitter. The FCC issues these licenses for a fixed term, and the licenses
must be periodically renewed. Because of interference constraints, the FCC can
generally issue only a limited number of radio station licenses for a particular
frequency band in any one area.
Although radio licenses generally are required for radio stations, Part
15 of the FCC's rules permit certain low-power radio devices ("Part 15 devices")
to operate on an unlicensed basis. Part 15 devices are designed to be used in
frequencies licensed to and used by others. Such licensed users have
preferential status within their respective frequencies. Part 15 devices are not
permitted to cause harmful interference with such preferred uses and must be
designed to accept interference from licensed radio devices. The Company's radio
meter modules transmit information back to either the Company's handheld,
mobile or fixed network AMR reading devices in the 910-920 MHz band pursuant to
these rules.
Itron's products are designed to eliminate virtually all interference
to other frequency users, while still enabling a complete and accurate read from
its radio meter modules. However, if the Company were unable to eliminate
harmful interference caused by its Part 15 devices through technical or other
means, the Company or its customers could be required to cease operations in the
band in the locations affected by the harmful interference. Further, in the
event that the unlicensed frequencies used by the Company and its customers
become unacceptably crowded or restrictive, and no additional frequencies are
allocated, the Company's business could be materially adversely affected.
In late February 1997, the FCC adopted a Notice of Proposed Rule Making
seeking comments concerning the rules for multiple address systems ("MAS"). The
Company uses licensed MAS frequencies to interrogate or "wake up" its meter
modules. The FCC is proposing to change the method for licensing some MAS
frequencies from individual site licenses to wide area licenses and to conduct
auctions for mutually exclusive applications in some MAS frequency bands. The
FCC has proposed to confine the use of the MAS frequencies used by the Company
to "private" use and has instituted a freeze on accepting applications proposing
to use the frequencies for subscriber-based services. The freeze does not affect
license applications for private operations.
Although the Company's customers generally hold the licenses for the
MAS frequencies used in connection with the Company's products that the utility
purchases, in limited instances the Company has applied to hold such licenses in
its own name. For a time it appeared that the FCC's freeze might prevent the
Company (but not the Company's customers) from applying for additional multiple
address licenses while the FCC rule making is pending because the FCC might deem
the Company to be providing subscriber-based services. Based on the Memorandum
Opinion and Order, DA 98-163, adopted by the FCC on March 4, 1998, however, the
Company now believes it will be permitted to apply for additional multiple
address licenses. Pursuant to the March 1998 decision, the FCC will not consider
the Company to be providing subscriber-based services if it uses its system to
collect utility consumption information that it furnishes to one of its
customers. While the Company does not believe that the proposed changes to the
method of MAS frequencies will prevent it or its customers from obtaining
necessary licenses, there can be no assurance that the rule changes will be
adopted as proposed or that they will not have a material adverse effect on the
ability of the Company or its customers to receive necessary licenses.
The Company also has been issued a renewable nationwide FCC license to
operate in the 1427-1429 MHz band. With the exception of meter modules which
operate in the 910-920 MHz band as described above, the Company's Fixed Network
products operate within this band. This frequency band currently is under the
exclusive control of the federal government, which has consented to the FCC's
issuance of a license for Itron's use of the band. Current government use of the
band is limited to a discrete number of well-defined locations, and the Company
believes the secondary nature of its license does not have a material impact on
its business.
The 1427-1429 MHz band is scheduled to be transferred from exclusive
federal government jurisdiction to the FCC in 1999. The continued government use
of the frequency will extend through 2004, at which time the frequency will be
subject to auction. The FCC has issued a report stating that rule makings in
this band will not be initiated until the year 2006. To date the FCC's approach
has been to "grandfather" incumbent users and permit their continued operation,
or, alternatively, to provide a period for incumbents to make a transition to
other frequencies, with the auction winners having to compensate the incumbent
users for relocation expenses. However, there can be no assurance that the FCC
will follow precedent in this respect. The Company believes that it may have a
significant installed base of products operating in the 1427-1429 MHz band by
the time the band becomes subject to auction. Consequently, the Company believes
that it would be difficult for any potential bidder to overcome the public
interest in the Company's continued use of the spectrum on behalf of the utility
industry and that it likely would be cost-prohibitive for any potential bidder
to provide compensation to the Company for relocation of the installed base.
Further, the Company believes that commercial demand for the 1427-1429 MHz band
is likely to be relatively low due to its proximity to a worldwide exclusion
zone of radio astronomy frequencies that may not be used for any commercial
purposes.
The regulatory environment the Company operates in is subject to
change. There can be no assurance that the FCC or Congress will not take
regulatory actions in the future that would have a material adverse effect on
the Company. See "Certain Risk Factors--Availability and Regulation of Radio
Spectrum." The Company is also subject to regulatory requirements in
international markets. These regulations, which vary by country, require
modifications to the Company's products, including operating on different
frequencies with different power specifications.
MANUFACTURING
The Company manufactures meter modules, Fixed Network components and
other AMR products, as well as handheld computers and peripheral equipment. The
Company's primary manufacturing objective is to design and produce low-cost,
high-quality meter modules and other Fixed Network components utilizing
high-volume automation equipment. The Company's primary manufacturing facilities
are located in Spokane, Washington and Waseca, Minnesota. The Company currently
has the capacity to produce over 4.6 million meter modules annually on a
two-shift basis. With the addition of a third shift and certain ancillary
equipment, the Company has the capacity to produce approximately 7.0 million
meter modules annually. In the first half of 1996, the Company expanded its
manufacturing capacity in Spokane through the installation of high-speed
automation and test equipment in order to support the anticipated growth in
meter module and CCU production. Because this anticipated growth did not
materialize, the Company currently has excess manufacturing capacity which has
resulted in an increase in cost of sales per unit. Certain of the Company's
handheld system products, telephone modules and international meter module
products are manufactured for the Company by third parties.
The Company's Waseca manufacturing facility produces all of the
Company's gas and water meter modules, data collection units used in Mobile AMR
and AMR handheld meter module installation and programming devices. The
Company's Waseca operations are highly automated and are designed for
high-volume manufacturing requirements. The key manufacturing processes for AMR
meter modules produced in Waseca include a ceramic board processing facility,
automated surface mount placement equipment and both passive and active laser
tuning equipment.
The Company's Spokane manufacturing facility is responsible for
electric meter module, CCU and NCN production and was designed for manufacturing
flexibility and automation. The key processes include automated surface mount
placement equipment, laser tuning equipment and automated test capabilities. The
Spokane facility is also responsible for manufacturing handheld systems and
peripheral equipment, as well as other lower-volume AMR products, and is the
primary repair facility for Itron's handheld systems products.
The Company has installed extensive automated testing equipment in both
its manufacturing facilities to ensure quality control and process
repeatability. The Company's testing includes both visual inspection and
automated testing of technical parameters established for each of its products.
The Company's quality control equipment also includes a sophisticated
information system that collects data from its testing equipment and provides
extensive reports and analyses of such data. This information system permits the
Company to promptly identify potential problems or weaknesses in its
manufacturing processes. The Company has been ISO 9000 certified since 1993 and
received ISO 9002 recertification of its Spokane facility in April 1996 and
expects to receive ISO 9002 certification of its Waseca facility during 1998.
INDUSTRY SEGMENTS AND FOREIGN AND DOMESTIC OPERATIONS
Itron's foreign operations consist of three consolidated subsidiaries
as well as international distributors. Subsidiary operations are located near
Reading, England; Lyon, France; and Sydney, Australia. These offices are
responsible for all utility sales and customer support within their respective
countries. To reach the broader international market, the Company conducts sales
through distributors appointed in approximately 45 other countries.
See Note 15 of Notes to Consolidated Financial Statements.
BACKLOG OF ORDERS AND INVENTORY
The revenue backlog of unshipped factory orders at the end of 1997 and
1996 was approximately $145 million and $73 million, respectively. The Company
expects that all the orders in backlog at the end of 1997 will be shipped during
1998. In addition, the Company has multi-year contracts to supply radio meter
modules and/or for outsourcing arrangements with several customers. Total
backlog including revenues beyond the next twelve months was $406 million and
$313 million at December 31, 1997 and 1996, respectively. Inventories at
December 31, 1997 and 1996 were $32.0 million and $35.2 million, respectively.
ENVIRONMENTAL REGULATIONS
Compliance with environmental regulations has not had a material effect
on the Company's capital expenditures, earnings or competitive position.
EMPLOYEES
As of December 31, 1997, the Company employed 1,213 full-time persons:
474 in manufacturing, 284 in product development, 233 in sales and marketing, 98
in customer service and support and 96 in finance and administration. Of these
employees, 51 were located in Europe, 28 in Australia and the remainder in the
United States. The Company continues to recruit and seeks to maintain
highly-qualified management, marketing, technical and administrative personnel.
None of the Company's employees is represented by a labor union. The Company has
not experienced any work stoppages and considers its employee relations to be
good.
OTHER
Itron does not have any contracts with the federal government. The
Company's business is not significantly seasonal.
CERTAIN RISK FACTORS
Dependence on Utility Industry; Uncertainty Resulting From Mergers and
Acquisitions and Regulatory Reform. The Company derives substantially all of its
revenues from sales of its products and services to the utility industry. The
Company has experienced variability of operating results on both an annual and a
quarterly basis due primarily to utility purchasing patterns and delays of
purchasing decisions as a result of mergers and acquisitions in the utility
industry and changes or potential changes to the state and federal regulatory
frameworks within which the electric utility industry operates.
The utility industry, both domestic and foreign, is generally
characterized by long budgeting, purchasing and regulatory process cycles that
can take up to several years to complete. The Company's utility customers
typically issue requests for quotes and proposals, establish committees to
evaluate the purchase, review different technical options with vendors, analyze
performance and cost/benefit justifications and perform a regulatory review, in
addition to applying the normal budget approval process within a utility.
Purchases of the Company's products are, to a substantial extent, deferrable in
the event that utilities reduce capital expenditures as a result of mergers and
acquisitions, pending or unfavorable regulatory decisions, poor revenues due to
weather conditions, rising interest rates or general economic downturns, among
other factors.
The domestic electric utility industry is currently the focus of
regulatory reform initiatives in almost every state, which initiatives have
resulted in significant uncertainty for industry participants and raised
concerns regarding assets that would not be considered for recovery through
ratepayer charges. Consequently, many utilities are delaying purchasing
decisions that involve significant capital commitments. While the Company
expects some states will act on these regulatory reform initiatives in the near
term, there can be no assurance that the current regulatory uncertainty will be
resolved in the near future or that the advent of new regulatory frameworks will
not have a material adverse effect on the Company's business, financial
condition and results of operations. Moreover, in part as a result of the
competitive pressures in the utility industry arising from the regulatory reform
process, many utility companies are pursuing merger and acquisition strategies.
The Company has experienced considerable delays in purchase decisions by
utilities that have become parties to merger or acquisition transactions.
Typically, such purchase decisions are put on hold indefinitely when merger
negotiations begin. The pattern of merger and acquisition activity among
utilities may continue for the foreseeable future. If such merger and
acquisition activity continues at its current rate or intensifies, the Company's
revenues may continue to be materially adversely affected.
Certain state regulatory agencies are considering the "unbundling" of
metering, billing and related information services from the basic transport
aspects of the electricity distribution function. Unbundling includes the
identification of the separate costs of metering and other services and may
extend to subjecting metering and other services to competition. For example,
the CPUC issued a decision that does subject metering, billing and related
services to competitive supply. The discontinuance of a utility's metering
monopoly could have a significant impact upon the manner in which the Company
markets and sells its products and services. As the customer for the Company's
products and services would change from utilities alone, to utilities and their
competitive suppliers of metering services, the Company could also be required
to modify its products and services (or develop new products and services) to
meet the needs of the participants in a competitive meter services market.
Recent Operating Losses. The Company experienced quarterly operating
losses in 1996 and 1997. There can be no assurance that the Company will
maintain consistent profitability on a quarterly or annual basis. The Company
has experienced variability of quarterly results and believes its quarterly
results will continue to fluctuate as a result of factors such as size and
timing of significant customer orders, delays in customer purchasing decisions,
timing and levels of operating expenses, shifts in product or sales channel mix,
and increased competition. Beginning in 1996, the Company increased its rate of
spending on its Fixed Network AMR operations, which has left the Company subject
to net operating losses caused by fluctuations in revenues. The Company's
operating margins have been adversely affected by excess manufacturing capacity
in 1996 and 1997. The Company expects competition in the AMR market to increase
as current competitors and new market entrants introduce competitive products.
Operating margins may also be affected by other factors. For example, the
Company has entered into large Fixed Network contracts such as with Duquesne and
Virginia Power with margins significantly below the Company's historical margins
due to competitive pressures.
Customer Concentration. The Company's revenues in any particular year
tend to be concentrated with a limited number of customers, the identity of
which changes from year to year. The Company is dependent on large, multi-year
contracts that are subject to cancellation or rescheduling by customers.
Cancellation or postponement of one or more of these contracts would have a
material adverse effect on the Company. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Results of
Operations" and "Description of Business--Customers."
Dependence on New Product Development. The Company has made and expects
to continue to make a substantial investment in technology development. The
Company's future success will depend in part on its ability to continue to
design and manufacture new competitive products and to continue to enhance its
existing products and achieve large-scale implementation for its Fixed Network
and other AMR products. This product development will require continued
substantial investment in order to maintain the Company's market position. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Description of Business--Product Development." There can be no
assurance that unforeseen problems will not occur with respect to the
development, performance or market acceptance of the Company's technologies or
products. Development schedules for high-technology products are subject to
uncertainty, and there can be no assurance that the Company will meet its
product development schedules. The Company has previously experienced
significant delays and cost overruns in the development of new products, and
there can be no assurance that delays or cost overruns will not be experienced
in the future. Delays in new product development, including software, can result
from a number of causes, including changes in product definition during the
development stage, changes in customer requirements, initial failures of
products or unexpected behavior of products under certain conditions, failure of
third-party supplied components to meet specifications or lack of availability
of such components, unplanned interruptions caused by problems with existing
products that can result in reassignment of product development resources, and
other factors. Delays in the availability of new products or the inability to
develop successfully products that meet customer needs could result in the loss
of revenue or increased service and warranty costs, any of which would have a
material adverse effect on the Company's business, financial condition and
results of operations.
Dependence on the Installation, Operations and Maintenance of AMR
Systems Pursuant to Outsourcing Contracts. A portion of the Company's business
consists of outsourcing, wherein the Company installs, operates and maintains
AMR systems that it continues to own in order to provide meter reading and other
related services to utilities and their customers. The Company currently has two
outsourcing contracts. The largest of the contracts, which is with Duquesne,
involves Fixed Network AMR; the other utilizes a Mobile AMR solution. These
long-term outsourcing contracts are subject to cancellation or termination in
certain circumstances in the event of a material and continuing failure on the
Company's part to meet contractual performance standards on a consistent basis
over agreed time periods.
The Company has experienced delays in performing its obligations under
the Duquesne Contract. These delays relate primarily to the development of
certain advanced meter reading functions and the software needed to complete
these functions. While the Company recently received acceptance from Duquesne on
the first critical milestone pursuant to the Duquesne Contract, numerous
milestones remain including two critical milestones. The remaining critical
milestones consist of the development of interfaces and expansion of network
functionality to 85% of single phase accounts in Duquesne's service territory.
The total amount of the remaining penalties, should the Company fail to meet
both of the remaining critical milestones is approximately $15 million. The
remaining two critical milestones currently must be satisfied during the second
quarter of 1998. The Company and Duquesne are currently in negotiations to
further amend the project schedule and corresponding remaining milestones. While
the Company believes it will be able to amend the contract and meet the
remaining critical milestones, as well as all other milestones that carry
financial penalties, there can be no assurance that it will be able to do so.
Any failure by the Company to meet a critical milestone would have a material
adverse effect on the Company's financial condition and results of operations.
See "Duquesne Fixed Network AMR Contract."
Increasing Competition. The Company faces competitive pressures from a
variety of companies in each of the markets it serves. In the radio-based fixed
network AMR market, companies such as CellNet, Whisper and the
Enron/Motorola/MTel consortium currently offer alternative solutions to the
utility industry and compete aggressively with the Company. The emerging market
for fixed network AMR systems for the utility industry, together with the
potential market for other applications once such fixed network systems are in
place, have led communications, electronics and utility companies to begin
developing various systems, some of which currently compete, and others of which
may in the future compete, with the Company's Fixed Network AMR system. These
competitors can be expected to offer a variety of technologies and
communications approaches, as well as meter reading, installation and other
services to utilities and other industry participants.
The Company believes that several other large suppliers of equipment,
services or technology to the utility industry may be developing competitive
products for the AMR market. In addition, large meter manufacturers could expand
their current product and services offerings so as to compete directly with the
Company. To stimulate demand, and due to increasing competition in the AMR
market, the Company has from time to time lowered prices on its AMR products and
may continue to do so in the future. The Company also anticipates increasing
competition with respect to the features and functions of such products. In the
handheld systems market, Itron has encountered competition from a number of
companies, resulting in margin pressures in international markets and the
maturing domestic handheld systems business.
Many of the Company's present and potential future competitors have
substantially greater financial, marketing, technical and manufacturing
resources, as well as greater name recognition and experience than the Company.
The Company's competitors may be able to respond more quickly to new or emerging
technologies and changes in customer requirements or to devote greater resources
to the development, promotion and sale of their products and services than the
Company. In addition, current and potential competitors may make strategic
acquisitions or establish cooperative relationships among themselves or with
third parties that increase their ability to address the needs of the Company's
prospective customers. Accordingly, it is possible that new competitors or
alliances among current and new competitors may emerge and rapidly gain
significant market share. There can be no assurance that the Company will be
able to compete successfully against current and future competitors, and any
failure to do so would have a material adverse effect on the Company's business,
financial condition, results of operations and cash flow. See "Description of
Business--Competition."
Uncertainty of Market Acceptance of New Technology. The AMR market is
evolving, and it is difficult to predict the future growth rate and size of this
market with any assurance. The AMR market did not grow as quickly in 1996 and
1997 as the Company expected. Further market acceptance of the Company's new AMR
products and systems, such as its Fixed Network products, will depend in part on
the Company's ability to demonstrate the cost effectiveness, strategic and other
benefits of the Company's products and systems, the utilities' ability to
justify such expenditures and the direction and pace of state and federal
regulatory reform actions. In the event that the utility industry does not adopt
the Company's technology or does not adopt it as quickly as the Company expects,
the Company's future results will be materially and adversely affected.
International market demand for AMR systems varies by country based on such
factors as the regulatory and business environment, labor costs and other
economic conditions. See "Description of Business--Sales, Distribution and
Marketing."
Rapid Technological Change. The telecommunications industry, including
the data transmission segment thereof, currently is experiencing rapid and
dramatic technology advances. The advent of computer-linked electronic networks,
fiber optic transmission, advanced data digitization technology, cellular and
satellite communications capabilities, and private communications networks have
greatly expanded communications capabilities and market opportunities. Many
companies from diverse industries are actively seeking solutions for the
transmission of data over traditional communications media, including
radio-based and cellular telephone networks. Competitors may be capable of
offering significant cost savings or other benefits to the Company's customers.
There can be no assurance that technological advances will not cause the
Company's technology to become obsolete or uneconomical.
Availability and Regulation of Radio Spectrum. A significant portion of
the Company's products use radio spectrum and in the United States are subject
to regulation by the FCC. In the past, the FCC has adopted changes to the
requirements for equipment using radio spectrum, and there can be no assurance
that the FCC or Congress will not adopt additional changes in the future.
Licenses for radio frequencies must be renewed, and there can be no assurance
that any license granted to the Company or its customers will be renewed on
acceptable terms, if at all. The Company has committed, and will continue to
commit, significant resources to the development of products that use particular
radio frequencies. Action by the FCC could require modifications to the
Company's products, and there can be no assurance that the Company would be able
to modify its products to meet such requirements, that it would not experience
delays in completing such modifications or that the cost of such modifications
would not have a material adverse effect on the Company's future financial
condition and results of operations.
The Company's radio-based products currently employ both licensed and
unlicensed radio frequencies. There must be sufficient radio spectrum allocated
by the FCC for the use the Company intends. As to the licensed frequencies,
there is some risk that there may be insufficient available frequencies in some
markets to sustain the Company's planned operations. The unlicensed frequencies
are available for a wide variety of uses and are not entitled to protection from
interference by other users. In the event that the unlicensed frequencies become
unacceptably crowded or restrictive, and no additional frequencies are
allocated, the Company's business will be materially adversely affected. See
"Description of Business--FCC Regulation."
The Company is also subject to regulatory requirements in international
markets that vary by country. To the extent the Company wishes to introduce
products designed for use in the United States or another country into a new
market, such products may require significant modification or redesign in order
to meet frequency requirements and power specifications. Further, in some
countries, limitations on frequency availability or the cost of making necessary
modifications may preclude the Company from selling its products.
Dependence on Key Personnel. The Company's success depends in large
part upon its ability to retain highly qualified technical and management
personnel, the loss of one or more of whom could have a material adverse effect
on the Company's business. The Company has retained a succession planning
consultant to assist in finding a new President, a position currently held by
Johnny Humphreys, who is also CEO. While Mr. Humphreys intends to retain his
current responsibilities as President until a successor is selected and will be
actively involved in the affairs of the Company for an indefinite period, the
Company's success will be dependent on the selection of a qualified eventual
successor to Mr. Humphreys. The Company's success also depends upon its ability
to continue to attract and retain highly qualified personnel in all disciplines.
There can be no assurance that the Company will be successful in hiring or
retaining the requisite personnel. See "Executive Officers of the Registrant."
Intellectual Property. While the Company believes its patents,
trademarks and other intellectual property have significant value, there can be
no assurance that these patents and trademarks, or any patents or trademarks
issued in the future, will provide meaningful competitive advantages. There can
be no assurance that the Company's patents or pending applications will not be
challenged, invalidated or circumvented by competitors or that rights granted
thereunder will provide meaningful proprietary protection. Despite the Company's
efforts to safeguard and maintain its proprietary rights, there can also be no
assurance that such rights will remain protected or that the Company's
competitors will not independently develop patentable technologies that are
substantially equivalent or superior to the Company's technologies. See
"Description of Business--Intellectual Property." On October 3, 1996, the
Company brought an action in the United Stated District Court for the District
of Minnesota against CellNet claiming infringement of one of Itron's patents.
That action is pending, and the discovery phase thereof has commenced. There can
be no assurance that the Company will prevail in such action or, even if it
prevails, that the legal costs incurred by the Company in connection with such
action will not have a material adverse effect on the Company's financial
condition or results of operations. See "Legal Proceedings."
Dependence on Key Vendors and Internal Manufacturing Capabilities.
Certain of the Company's products, subassemblies and components are procured
from a single source, and others are procured only from limited sources. In
particular, the Company currently obtains approximately 50% of its handheld
devices from one vendor located in the United Kingdom and obtains all the
microcontrollers for its AMR meter modules from single sources. The Company's
reliance on such components or on these sole- or limited-source vendors or
subcontractors involves certain risks, including the possibility of shortages
and reduced control over delivery schedules, manufacturing capability, quality
and costs. In addition, Itron may be affected by worldwide shortages of certain
components, such as memory chips. A significant price increase in certain of
such components or subassemblies could have a material adverse effect on the
Company's results of operations. Although the Company believes alternative
suppliers of these products, subassemblies and components are available, in the
event of supply problems from the Company's sole or limited-source vendors or
subcontractors, the Company's inability to develop alternative sources of supply
quickly or cost-effectively could materially impair the Company's ability to
manufacture its products and, therefore, could have a material adverse effect on
the Company's business, financial condition and results of operations. In the
event of a significant interruption in production at the Company's manufacturing
facilities, considerable time and effort could be required to establish an
alternative production line. Depending on which production line were affected,
such a break in production would have a material adverse effect on the Company's
business, financial condition and results of operations. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Results of Operations" and "Description of Business--Manufacturing."
Dependence on Outsourcing Financing. The Company intends to utilize
limited recourse, long-term, fixed rate project financing for its future
outsourcing contracts. It has established Itron Finance, Inc. as a wholly owned
Delaware subsidiary and plans to establish bankruptcy remote, single and special
purpose subsidiaries of Itron Finance, Inc. for this purpose. Although the
Company has completed financing for what it believes to be the first AMR project
financing, there can be no assurance that the Company will be able to effect
other project financings. If the Company is unable to utilize limited resource,
long-term, fixed rate project financing for its outsourcing contracts, its
borrowing capacity will be reduced and it may be subject to negative effects of
floating interest rates if it cannot hedge this exposure.
International Operations. International sales and operations may be
subject to risks such as the imposition of government controls, political
instability, export license requirements, restrictions on the export of critical
technology, currency exchange rate fluctuations, generally longer receivables
collection periods, trade restrictions, changes in tariffs, difficulties in
staffing and managing international operations, potential insolvency of
international dealers and difficulty in collecting accounts receivable. In
addition, the laws of certain countries do not protect the Company's products to
the same extent as do the laws of the United States. There can be no assurance
these factors will not have a material adverse effect on the Company's future
international sales and, consequently, on the Company's business, financial
condition and results of operations. See "Description of Business--Sales,
Distribution and Marketing."
Antitakeover Considerations. The Company has the authority to issue 10
million shares of preferred stock in one or more series and to fix the powers,
designations, preferences and relative, participating, optional or other rights
thereof without any further vote or action by the Company's shareholders. The
issuance of preferred stock could dilute the voting power of holders of Common
Stock and could have the effect of delaying or preventing a change in control of
the Company. Certain provisions of the Company's Restated Articles of
Incorporation, Restated Bylaws, shareholder rights plan and employee benefit
plans, as well as Washington law, may operate in a manner that could discourage
or render more difficult a takeover of the Company or the removal of management
or may limit the price certain investors may be willing to pay in the future for
shares of Common Stock.
Item 1a: EXECUTIVE OFFICERS OF THE REGISTRANT
Set forth below are the names, ages, titles with Itron, and principal
occupations and employment for the last five years of the persons serving as
executive officers of Itron as of March 1, 1998.
Name Age Position
------------------------------ ----- --------------------------------------------------------------------
Johnny M. Humphreys 60 President, Chief Executive Officer and Director
Carl Robert Aron 54 Executive Vice President and Chief Strategist
Richard G. Geiger 48 Senior Vice President and General Manager, Technical Management
Klaus O. Huschke 64 Senior Vice President and General Manager, International
Operations
Robert D. Neilson 41 Senior Vice President, Business Development
LeRoy D. Nosbaum 51 Vice President and General Manager, Network Systems
Michael J. O'Callaghan 58 Senior Vice President and General Manager, Global Handheld and
Mobile Systems
Larry A. Panattoni 59 Senior Vice President, Corporate and Manufacturing Services
David G. Remington 56 Vice President and Chief Financial Officer
Dennis A. Shepherd 49 Vice President and General Manager, Utility Translation Systems
John A. Smith 48 Vice President, Data Collection Systems Integration
Russell E. Vanos 41 Vice President and General Manager, Utility and Energy Service
Division
S. Edward White 47 Executive Vice President and Chairman, Utility Translation
Systems, Inc. and Director
Johnny M. Humphreys has been President, Chief Executive Officer and a
director of Itron since 1987. In addition, Mr. Humphreys is expected to be
appointed as Chairman of the board immediately following the Company's 1998
annual meeting of shareholders. From 1975 to 1986, Mr. Humphreys was employed by
Datachecker Systems, Inc. ("Datachecker"), a subsidiary of National
Semiconductor Corporation ("NSC"), in various executive positions, including
President from 1980 to 1986. In 1986, Mr. Humphreys was appointed Senior Vice
President of NSC's Information Systems Group and was responsible for strategic
planning for three operating divisions, National Advanced Systems, Microcomputer
Products Group and Datachecker.
Carl Robert Aron has been Executive Vice President and Chief Strategist
of Itron since February 1998. Mr. Aron joined Itron as Executive Vice President
in November 1995, and served as its Chief Operating Officer from November 1995
to February 1998. Prior to joining Itron, Mr. Aron had been employed by EDS
Management Consulting Services as the National Director of its Wireless
Consulting Practice and its Utilities Telecommunications Practice since 1994.
From 1981 to 1994, Mr. Aron was Chief Executive Officer of RAM Broadcasting
Corporation, a provider of mobile communications services. From 1967 to 1990,
Mr. Aron was an attorney with the law firm of Rubin Baum Levin Constant &
Friedman.
Richard G. Geiger was promoted to Senior Vice President and General
Manager, Technical Management of Itron in October 1997. Previously, Mr. Geiger
had been Vice President, Product Development of Itron since 1993. From 1989 to
1992, Mr. Geiger was Vice President and General Manager of AMRplus Partners.
From 1986 to 1989, Mr. Geiger was President of Mitsumi Technology, Inc., a
research and development subsidiary of Mitsumi Company Limited, a developer of
new electronics products. From 1984 to 1986, Mr. Geiger was Vice President and
General Manager of Commodore Amiga, prior to which he spent four years with
Apple Computer, Inc. as Manager of Advanced Development and four years with
Digital Equipment Corporation.
Klaus O. Huschke was promoted to Senior Vice President and General
Manager, International Operations of Itron in October 1997. Previously, Mr.
Huschke had been Vice President, International of Itron since 1987. From 1982 to
1987, Mr. Huschke was Vice President, International Operations at Datachecker.
Prior to joining Datachecker he spent 21 years in a variety of sales and
management positions with Anker Data Systems Corporation, a German point-of-sale
manufacturer, in its German, Italian and American headquarters.
Robert D. Neilson was promoted to Senior Vice President, Business
Development of Itron in October 1997. Previously, Mr. Neilson had been Vice
President, Marketing since 1993. Mr. Neilson joined Itron in 1983 as manager of
market development and planning, and served as Director of Marketing from 1987
to 1993. As Director of Marketing, Mr. Neilson's responsibilities included
marketing for AMRplus Partners.
LeRoy D. Nosbaum joined the Company as a Vice President in March 1996
and was named Vice President and General Manager, Network Systems of Itron in
October 1997. Before joining Itron, Mr. Nosbaum was Executive Vice President and
General Manager of Metricom, Inc.'s UtiliNet Division, and has held a variety of
positions with Metricom since 1989. Prior to joining Metricom, Mr. Nosbaum was
employed by Schlumberger Ltd. and Sangamo Electric for 20 years, most recently
as General Manager of the Integrated Metering Systems Division of Electricity
Management--North America, an operating group of Schlumberger.
Michael J. O'Callaghan was promoted to Senior Vice President and
General Manager, Global Handheld and Mobile Systems of Itron in October 1997.
Mr. O'Callaghan joined Itron in 1987 as Vice President, Utility Systems. Before
joining Itron, Mr. O'Callaghan was Vice President, Sales of NSC's microcomputer
division. Prior to joining NSC, he was Vice President, Sales of Byvideo, Inc., a
manufacturer of computer-based video kiosks for remote purchases. Prior to
joining Byvideo, Inc., he was Vice President, Sales and Marketing of Onyx
Systems, Inc., a manufacturer of UNIX-based microcomputers, for three years and
was with NSC for nine years in various sales and marketing management positions.
Larry A. Panattoni was promoted to Senior Vice President, Corporate and
Manufacturing Services of Itron in October 1997. Mr. Panattoni joined Itron in
1990 as Vice President, Manufacturing. He previously spent 21 years in financial
and operation management positions of increasing responsibility with NSC, most
recently as Vice President of Administration. He was also Vice President of
Manufacturing Operations and Administration, and Vice President of Finance and
Administration with Datachecker.
David G. Remington joined Itron in early 1996 as Vice President and
Chief Financial Officer. Before joining Itron, Mr. Remington was a Managing
Director of Dean Witter Reynolds Inc. or Dean Witter Realty Inc. from 1988 to
1996. Previously, he spent 17 years with three financial services firms and a
high technology firm. Immediately prior to Dean Witter Reynolds, he was Vice
President-Finance and later President of Steiner Financial Corporation.
Dennis A. Shepherd joined Itron as Vice President of Marketing and Sales
of Utility Translation Systems, Inc. in March 1996, when Itron acquired UTS. Mr.
Shepherd has worked for UTS for 10 years. Prior to joining UTS, Mr. Shepherd
worked as an industrial engineer and marketing representative for Westinghouse
Electric Corporation.
John A. Smith joined Itron as Vice President of Engineering of Utility
Translation Systems, Inc. in March 1996, when Itron acquired UTS. Mr. Smith has
worked for UTS for 10 years with responsibility for product development. Before
joining Itron, Mr. Smith worked for 12 years in the Meter Division of
Westinghouse Electric Corporation where he was a software engineer and manager
of software development. Previously, he was a commissioned officer in the United
States Air Force serving as the Chief of Computer Operations of the
Environmental Technical Applications Center in Washington, D.C.
Russell E. Vanos has been Vice President and General Manager, Utility
and Energy Services of Itron since October 1997. Previously, Mr. Vanos had been
the Western area sales director for Itron since 1988. Mr. Vanos joined Itron in
1980 as a field service representative installing the first generation of Itron
EMR systems, and has served in numerous management positions with
implementation, customer service and sales responsibilities.
S. Edward White joined Itron as President of Utility Translation
Systems, Inc. in March 1996, when Itron acquired UTS. Mr. White has been a
director of the Company since 1996. Mr. White has been President of UTS since
its inception in 1980. Prior to founding UTS, Mr. White held numerous
engineering and marketing management positions with Westinghouse Electric
Corporation, Meter Division, for 13 years.
Item 2: PROPERTIES
The Company's headquarters are located in approximately 137,000 square
feet of owned space in Spokane, Washington, including 60,000 square feet of
manufacturing space. The Company also owns a building adjacent to its Spokane
facility with approximately 28,000 square feet of manufacturing and engineering
space. In Raleigh, North Carolina, the Company owns approximately 24,000 square
feet used for all activities related to its UTS subsidiary. In Waseca,
Minnesota, the Company leases 70,000 square feet of manufacturing and
engineering space. The Company also has facilities in Saratoga, California;
Lakeville, Minnesota; and Boise, Idaho with approximately 63,000 square feet of
total leased space. These facilities are used primarily for product development.
Additionally, the Company leases sales offices in the United Kingdom, France and
Australia and in various cities throughout the United States. The Company's 1997
aggregate domestic and international base monthly lease obligation is
approximately $155,000. All the above facilities are in good condition and the
Company believes its current manufacturing and other properties will be
sufficient to support its operations for the foreseeable future.
Item 3: LEGAL PROCEEDINGS
On October 3, 1996, Itron filed a patent infringement suit against
CellNet Data Systems ("CellNet") in the United States District Court for the
District of Minnesota, alleging that CellNet is infringing the Company's United
States Patent No. 5,553,094, entitled "Radio Communication Network for Remote
Data Generating Stations," issued on September 3, 1996. The Company is seeking
injunctive relief as well as monetary damages, costs and attorneys' fees. The
discovery phase of this lawsuit has commenced. There can be no assurance that
the Company will prevail in this action or, even if it does prevail, that legal
costs incurred by the Company in connection therewith will not have a material
adverse effect on the Company's financial condition.
On April 29, 1997, Itron was served by CellNet with a complaint
alleging patent infringement. The suit is pending in the United States District
Court for the Northern District of California. Itron's management has reviewed
the complaint and believes it to be without merit. The patent in question was
issued in 1988. Itron's management is unaware of any previous assertion by
CellNet of any claim of patent infringement by Itron. Itron intends to
vigorously defend this suit. The complaint seeks injunctive relief as well as
monetary damages, costs and attorneys' fees.
On May 29, 1997, Itron and its President and Chief Executive Officer,
Johnny M. Humphreys, were served with a complaint alleging securities fraud
filed by Mark G. Epstein (Epstein v Itron, et al.) on his own behalf and alleged
to be on behalf of a class of all others similarly situated, in the U.S.
District Court for the Eastern District of Washington (Civil Action No.
CS-97-214 RHW). The complaint alleges, among other matters, that Itron and Mr.
Humphreys violated Section 10(b) of the Securities Exchange Act of 1934, as
amended, and Rule 10b-5 thereunder by making allegedly false statements
regarding the development status, performance and technological capabilities of
Itron's Fixed Network AMR system and regarding the suitability of Itron's
encoder receiver transmitter devices for use with an advanced Fixed Network AMR
system. The complaint seeks monetary damages, costs and attorneys' fees and
unspecified equitable or injunctive relief.
On July 28, 1997, the Company and Mr. Humphreys filed a motion to
dismiss the complaint for failure to state a claim for relief. On January 23,
1998, the Court denied the motion to dismiss. The discovery phase of this
lawsuit has commenced. The Company believes it has good defenses to the claims
alleged and intends to defend itself vigorously against this action.
On September 3, 1997, Itron and Mr. Humphreys agreed to accept service
of process of a complaint which was filed in the Superior Court of the State of
Washington, County of Spokane, (Civil Action No. 97204889-8) against the
Company, its President and Chief Executive Officer, Johnny M. Humphreys, Itron
Board Chairman Paul A. Redmond, Itron Director Jon E. Eliassen, and Washington
Water Power Company. The complaint, filed by plaintiff Katya M. Haub, purports
to be brought on behalf of herself and a class of all others similarly situated.
The class period alleged is identical to that alleged in a previously-filed
proposed class action (Epstein v. Itron, et al.) filed in the United States
District Court for the Eastern District of Washington at Spokane. The complaint
alleges, among other matters, that defendants are liable for claims made under
the Washington State Securities Act, the Washington State Consumer Protection
Act, and the common law of negligent misrepresentation and seeks monetary
damages, costs, attorneys' fees and equitable or injunctive relief. The
complaint generally alleges that defendants were responsible for materially
incorrect statements about Itron's business, markets, and future prospects
including allegedly misleading statements with respect to the development and
deployment of Itron's Fixed Network system. The Company has filed a motion to
stay. A hearing on this motion was held on October 31, 1997, at which time the
court issued a temporary stay pending determination of the Company's motion to
dismiss in the Epstein case, and took the motion under advisement. On February
18, 1998 the Court orally denied the motion to stay. The Company and Johnny
Humphreys, joined by all of the other defendants, have filed a motion to dismiss
this action. A hearing on this motion is now set for May 1, 1998. The Company
believes it has good defenses to the claims alleged, and intends to defend
itself vigorously against this action.
The Company is not involved in any other material legal proceedings.
Item 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of shareholders of Itron during the
fourth quarter of 1996.
PART II
Item 5: MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Market Information for Common Stock
Itron's common stock is traded on the NASDAQ National Market. The
following table reflects the range of high and low closing sales prices for all
four quarters of 1997 and 1996 as reported by the NASDAQ National Market.
1997 1996
--------------------------------------------------------------------
HIGH LOW HIGH LOW
--------------------------------------------------------------------
First Quarter $26.00 $16.75 $51.50 $29.50
Second Quarter 28.13 18.50 $60.00 $27.75
Third Quarter 27.50 22.00 $36.75 $19.75
Fourth Quarter 27.00 14.25 $26.00 $14.50
HOLDERS
At February 27, 1998, there were approximately 12,000 holders of record
of the Company's Common Stock.
DIVIDENDS
The Company has never declared or paid cash dividends. The Company
intends to retain future earnings, if any, for the development of its business
and does not anticipate paying cash dividends in the foreseeable future. Prior
to the merger with the Company, UTS paid dividends of $1,650,000 and $200,000 in
the years ended December 31, 1995 and 1996, respectively.
Item 6: SELECTED FINANCIAL DATA
SELECTED CONSOLIDATED FINANCIAL INFORMATION
Year Ended December 31,
- ------------------------------------------------------------------------------------------------------------
(In thousands, except per share data) 1997 1996 1995 1994 1993
- -------------------------------------------- ---------- ------------ -------------- ----------- ------------
Statement of Operations Data
Revenues
AMR systems $143,472 $129,576 $98,724 $65,009 $43,679
Handheld systems 49,409 45,084 60,952 60,905 49,021
Outsourcing 23,236 2,924 1,659 - -
---------- ------------ -------------- ----------- ------------
Total revenues 216,117 177,584 161,335 125,914 92,700
Cost of revenues 135,359 104,708 89,596 69,481 49,527
---------- ------------ -------------- ----------- ------------
Gross profit 80,758 72,876 71,739 56,433 43,173
Operating expenses
Sales and marketing 29,613 28,847 20,054 17,159 13,353
Product development 32,220 33,285 27,080 18,071 12,619
General and administrative 12,064 10,970 7,589 5,727 5,260
Amortization of intangibles 2,190 1,542 2,336 2,266 2,240
---------- ------------ -------------- ----------- ------------
Total operating expenses 76,087 74,644 57,059 43,223 33,472
---------- ------------ -------------- ----------- ------------
Operating income (loss) 4,671 (1,768) 14,680 13,210 9,701
Other income (expense)
Equity in affiliates (1,120) (50) - - -
Gain on sale of business interest 2,000 - - - -
Interest, net (3,916) (316) 1,721 983 (555)
---------- ------------ -------------- ----------- ------------
Total other income (expense) (3,036) (366) 1,721 983 (555)
Income (loss) before taxes 1,635 (2,134) 16,401 14,193 9,146
Income tax (provision) benefit (625) 670 (5,250) (3,930) (3,110)
---------- ------------ -------------- ----------- ------------
Net income (loss) $1,010 $(1,464) $11,151 $10,263 $6,036
---------- ------------ -------------- ----------- ------------
Per Share Data
Basic earnings (loss) per share $.07 $(.11) $.85 $.86 $.64
Diluted earnings (loss) per share .07 (.11) .81 .80 .59
Weighted average shares outstanding 14,118 13,297 13,095 11,959 9,483
Diluted shares outstanding 14,562 13,297 13,775 12,851 10,234
Balance Sheet Data
Working capital $68,307 $26,239 $64,536 $63,357 $43,784
Total assets 240,211 186,671 149,718 122,333 102,076
Total debt 73,814 39,502 5,668 391 1,284
Shareholders' equity 120,427 114,222 111,273 97,477 73,735
Item 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction
with "Selected Consolidated Financial Information" and the Company's
Consolidated Financial Statements and Notes thereto.
OVERVIEW
Itron is a leading global provider to the utility industry of solutions
for collecting, communicating and analyzing electric, gas and water usage data.
The Company designs, develops, manufactures, markets, sells, installs and
services hardware, software and integrated systems for utilities to obtain,
analyze and use meter data. The Company's major product lines include Automatic
Meter Reading ("AMR") systems and Electronic Meter Reading ("EMR") or Handheld
systems. The Company both sells its products and provides outsourcing services.
The Company's AMR solutions involve the use of both radio and telephone
technology to collect and communicate meter data. The Company's radio-based AMR
solutions include Off-Site AMR, Mobile AMR and Fixed Network AMR technology
reading options. Off-Site AMR utilizes a radio device attached to an Itron
handheld computer that interrogates meters equipped with the Company's radio
meter modules up to 1,000 feet away. Mobile AMR uses a transceiver mounted in a
vehicle to collect data from meters equipped with the Company's radio meter
modules as the vehicle passes by. Fixed Network AMR collects and transmits meter
information via radio components that are mounted in a variety of fixed
locations. The Company's EMR systems product line includes ruggedized handheld
computers to record visually obtained meter data, and supporting products and
services. Outsourcing services may encompass the installation, operation and/or
maintenance of meter reading systems to provide meter information to a utility
for billing and management purposes.
Outsourcing contracts typically have terms of 15 or more years.
The Company derives substantially all of its revenues from sales of its
products and services to the utility industry. The Company has experienced
variability of operating results on both an annual and a quarterly basis due
primarily to utility purchasing patterns and delays of purchasing decisions.
These delays have most recently been a result of changes or potential changes to
the state and federal regulatory frameworks within which the electric utility
industry operates and mergers and acquisitions in the utility industry.
RESULTS OF OPERATIONS
Revenues
Total revenues for the Company increased $38.5 million, or 22%, to
$216.1 million in 1997, compared to $177.6 million and $161.3 million in 1996
and 1995, respectively.
Year Ended December 31,
- --------------------------------------------------------------------------------------------------------------------------
Revenues (in millions) Increase Increase
1997 (Decrease) 1996 (Decrease) 1995
- --------------------------------------------------------------------------------------------------------------------------
AMR systems $143.5 11% $129.6 31% $98.7
Handheld systems 49.4 10% 45.1 (26%) 61.0
Outsourcing 23.2 695% 2.9 76% 1.6
--------------- ---------------- ---------------- --------------- -------------
Total revenues $216.1 22% $177.6 10% $161.3
--------------- ---------------- ---------------- --------------- -------------
AMR systems revenues increased $13.9 million, or 11%, in 1997 over the
prior year. The increased revenues were primarily related to a contract to
supply metering data collection software for the state of California's
transmission grid, sales of telephone-based systems from the Company's newly
acquired DCI subsidiary, increased international AMR sales and sales of AMR
hardware and software products introduced in late 1996 and 1997. Average selling
prices in 1997 for the Company's meter modules remained approximately level with
1996. Excluding shipments for outsourcing contracts, the Company shipped
approximately 2.3 million and 2.1 million AMR meter modules in 1997 and 1996,
respectively. AMR systems revenues increased $30.9 million, or 31%, in 1996 over
1995 because more AMR meter modules were shipped in the 1996 period. The
increased volumes resulted from the addition of 88 new AMR customers in 1996, as
well as accelerated installation schedules for a significant customer, Public
Service Company of Colorado ("PSCo"). PSCo accounted for 30% of AMR revenues
(22% of total revenues) in 1996 and 22% of AMR revenues (14% of total revenues)
in 1995, but only represented 11% of AMR revenues (8% of total revenues) in
1997. The Company believes that AMR revenues will continue to grow in the
future. However, this growth continues to depend upon the timing and resolution
of industry regulatory reform issues in the United States, mergers and
acquisitions in the utility industry, acceptance of new products, development of
international markets, and other factors.
Handheld systems revenues for 1997 increased $4.3 million, or 10%, from
1996 as a result of a large international EMR sale to Korea Electric Power
Company ("KEPCo"). Handheld systems revenues for 1996 declined $15.9 million, or
26%, from 1995 due to unusually large system sales to two Japanese utilities in
1995. These sales represented over 23% of total handheld system sales in 1995.
Handheld systems revenues have steadily declined from 38% of total Company
revenues in 1995 to 23% in 1997. The Company believes that revenues for handheld
systems will continue to decline as a percentage of total revenues as more
utilities adopt and expand AMR system deployments. Future handheld systems
revenues are expected to be derived primarily from domestic upgrade and
replacement business and further penetration into international markets.
The Company had a substantial increase in outsourcing revenues in 1997
primarily due to initial revenue recognition for the Company's largest
outsourcing contract with the Duquesne Light Company ("Duquesne") for a Fixed
Network AMR system. Additional outsourcing revenues in 1997 consisted of
revenues from a Mobile AMR outsourcing agreement as well as revenue from a
customer exercising its option to convert its outsourcing contract to a sale.
The Company currently has two remaining outsourcing contracts under which it is
recognizing revenue. For the years ended December 31, 1996 and 1995, the Company
had insignificant revenues from its first outsourcing contract. Revenues for
outsourcing contracts are recognized using the cost-to-cost,
percentage-of-completion method of long-term contract accounting under which the
revenue recognized in any given period is measured by the percentage of costs
incurred to date to estimated total costs for each contract. (For more
information on revenue recognition for outsourcing contracts see Note 1 to the
financial statements.)
In February 1998, the Company received acceptance from Duquesne on the
first Critical Milestone as defined in the Company's amended contract agreement
with Duquesne. The amended agreement, which was signed in the third quarter of
1997, included revised completion dates for a number of Critical Milestones. As
in the original contract, the amended agreement provides for certain one-time
monetary penalties for failure to meet certain specified milestones. The total
amount of the remaining penalties, should the Company fail to meet each of the
remaining specified Critical Milestones, is approximately $15 million. The
Company is currently in compliance with its agreement with Duquesne and believes
it will fully satisfy all future Critical Milestones. (For additional
information see "Amended Duquesne Agreement," an exhibit to the Company's Form
10-Q filed on November 14, 1997, and "Description of Business--Certain Risk
Factors--Dependence on the Installation, Operations and Maintenance of AMR
Systems Pursuant to Outsourcing Contracts" included elsewhere herein and
"Duquesne Fixed Network AMR Contract.") Outsourcing revenues are expected to
decrease in 1998 from the level experienced in the current year, both in terms
of absolute dollars and as a percentage of total revenues, as the Company did
not sign any new outsourcing contracts during 1997.
Cost of Revenues
Total cost of revenues increased by $30.7 million, or 29%, in 1997 over
1996 and $15.1 million, or 17%, in 1996 over 1995. Gross margin was 37% in 1997
compared to 41% and 44% in 1996 and 1995, respectively. The percentages for
1997, 1996 and 1995 in the table below reflect cost of revenues as a percentage
of corresponding revenue:
Year Ended December 31,
- ---------------------------------------------------------------------------------------------------------------------------
Cost of revenues 1997 Increase 1996 Increase 1995
(Decrease) (Decrease)
- ------------------------------ ------------------ ----------------- ------------------ ------------------ ------------------
AMR systems 59% 10% 59% 43% 54%
Handheld systems 67% 26% 59% (25%) 58%
Outsourcing 78% 786% 70% 97% 63%
Total cost of revenues 63% 29% 59% 17% 56%
Gross margin 37% 11% 41% 2% 44%
AMR systems cost of revenues were 59% of AMR systems revenues in each
of 1997 and 1996. The comparatively higher costs in 1997 and 1996 than those
experienced in 1995 were primarily caused by additional overhead expenses from
the Company's expansion of manufacturing capacity. The Company expects AMR
systems costs as a percentage of revenues in 1998 to increase slightly as a
result of a large Fixed Network AMR order with a below-average margin that was
received in 1997.
Handheld systems cost of revenues were 67% of revenues in 1997 compared
to 58% in 1996 and 1995, respectively. The cost increase was primarily due to
the lower than average margin sale to KEPCo. The Company expects that handheld
systems costs as a percentage of revenues will decrease somewhat in 1998 from
the level experienced in 1997 due to an improved mix of business.
As a percentage of revenues, outsourcing costs were 78% in 1997
compared to 70% in 1996 and 63% in 1995. The higher percentage in 1997 reflects
lower than average margins for the Company's first large scale Fixed Network AMR
system. The Company expects outsourcing costs as a percentage of revenues in
1998 to be comparable to those in 1997.
Operating Expenses
Total 1997 operating expenses of $76.1 million increased $1.4 million,
or 2%, over 1996 but decreased as a percentage of revenues from 42% to 35%.
Operating expenses increased $17.6 million in 1996 over 1995 and also increased
as a percentage of revenues from 35% to 42%.
Year Ended December 31,
- ------------------------------------------------------------------------------------------------------------------------
Operating expenses (in millions) Increase Increase
1997 (Decrease) 1996 (Decrease) 1995
- ----------------------------------------- --------------- ----------------- ------------ --------------- ---------------
Sales and marketing $29.6 3% $28.8 44% $20.1
Product development 32.2 (3%) 33.3 23% 27.1
General and administrative 12.1 10% 11.0 45% 7.6
Amortization of intangibles 2.2 42% 1.5 (34%) 2.3
--------------- ----------------- ------------ --------------- ---------------
Total operating expenses $76.1 2% $74.6 31% $57.1
--------------- ----------------- ------------ --------------- ---------------
Total sales and marketing expenses in 1997 increased slightly over
1996, but decreased as a percentage of revenues from 16% to 14%. The lower
percentage was driven by the Company's focus on cost containment and the
discontinuance of the Genesis Services division. Genesis Services was formed in
late 1995 for sales and marketing of AMR Fixed Networks. These efforts have been
absorbed by the Company's current sales and marketing organization. Sales and
marketing expenses for 1996 of $28.8 million increased both in total and as a
percentage of revenues to 16% in 1996 from 12% in 1995. The year-to-year growth
was primarily due to the formation of the Genesis Services division and
expansion of technical sales and implementation staff for Fixed Networks. The
Company expects sales and marketing expenses in 1998 to increase in total, but
to decrease somewhat as a percentage of revenues from 1997.
Total product development expenses in 1997 decreased slightly from
1996, but decreased significantly as a percentage of revenues from 19% to 15%.
The decrease was caused by the Company's focus on cost containment, as well as
the absence of a one-time materials charge of $2.1 million incurred in 1996
related to the redesign of the cell control unit and a new handheld computer.
Partially offsetting these decreases were expenses from DCI, which was acquired
in the second quarter of 1997. Product development expenses increased $6.2
million in 1996, or 23%, over 1995 and also increased as a percentage of
revenues to 19% from 17%. The higher spending in 1996 was due to accelerated
development of Fixed Network AMR products, development of water and
international meter modules, continued cost reduction programs and the $2.1
million one-time materials charge. The Company expects that product development
expenses will increase in 1998, but will decrease somewhat as a percentage of
revenues compared to 1997.
Total general and administrative expenses increased by $1.1 million, or
10%, in 1997 over 1996, but remained at 6% of revenues. The higher expenses in
1997 were primarily due to incentive compensation costs which were not incurred
in 1996, as well as expenses from DCI. General and administrative expenses
increased $3.4 million, or 45%, from 1995 to 1996 and increased as a percentage
of revenue from 5% to 6%. The 1996 increase was related to operating and
maintenance expenses associated with expanded facilities, executive staff
additions and third quarter severance charges related to a 5% reduction in the
Company's workforce. The Company expects that general and administrative
expenses will increase in 1998, but are expected to remain equal to or somewhat
lower than 1997 as a percentage of revenues.
The Company has conducted a review of its computer systems to identify
those areas that could be affected by "Year 2000" issues and has developed an
implementation plan to resolve the issues. The Company is in the process of
modifying its software products and presently believes, with modification to
existing software and converting to new software, that Year 2000 issues will not
pose significant operational problems and are not anticipated to be material to
its financial position or results of operations in any given year.
Other Income (Expense)
Year Ended December 31,
- ------------------------------------------------------------------------------------------------------------------------
Other income (expense) (in millions) 1997 1996 1995
- --------------------------------------------------------------- ------------------ ------------------ ------------------
Equity in affiliates $(1.1) $(0.1) -
Gain on sale of business interest 2.0 - -
Interest, net (3.9) (0.3) 1.7
------------------ ------------------ ------------------
Total other income (expense) $(3.0) $(0.4) $1.7
------------------ ------------------ ------------------
The Company incurred a loss of $1.1 million during the year related to
business activities from a joint venture with a utility partner. Offsetting this
loss, was a gain from the sale to this partner of certain business activities
previously performed by the joint venture including meter shop services and
utility meter reading services. Gross interest expense was $4.9 million and $1.4
million for 1997 and 1996, respectively. The expense in 1997 resulted primarily
from interest on the $63.4 million convertible notes placed by the Company in
the first quarter of the year. The expense in 1996 was the result of borrowings
under the Company's revolving line of credit in the last half of the year.
Interest on long-term mortgages also contributed to the expense in both 1997 and
1996. The Company capitalized interest expense of $994,000 and $533,000 in 1997
and 1996, respectively, primarily related to construction of outsourcing
equipment. The Company generated net interest income in 1995 from investments,
which were a result of positive cash flows from operations in the 1995 period
and remaining cash balances from the Company's stock offerings in 1994 and 1993.
Income Taxes
The Company's 1997 effective income tax rate was approximately 38% of
pre-tax income. This compares to a 1996 effective rate of 31% of pre-tax loss.
The lower 1996 effective rate was a result of foreign operating losses for which
no tax benefit was recorded and a cash-to-accrual accounting adjustment related
to the merger with UTS in March of 1996. The reported 1995 effective income tax
rate was 32%. The Company's effective income tax rate may vary from year to year
because of fluctuations in foreign operating results, changes in tax
jurisdictions in which the Company operates, and changes in tax legislation.
Financial Condition
Year Ended December 31,
- -------------------------------------------------------------------------------------------------------------------------
Cash flow information (in millions) Increase Increase
1997 (Decrease) 1996 (Decrease) 1995
- -------------------------------------------- ------------- ----------------- ------------- --------------- --------------
Operating activities $(3.2) 81% $(16.9) (251%) $11.2
Investing activities (34.1) (38%) (24.8) 43% (17.4)
Financing activities 38.1 2% 37.5 2106% 1.7
------------- ----------------- ------------- --------------- --------------
Net increase (decrease) in cash $0.8 (119%) $(4.2) (7%) $(4.5)
------------- ----------------- ------------- --------------- --------------
Net operating activities consumed $3.2 million in 1997 compared to
$16.9 million in 1996. Increases in operating accounts during the year included
$19.2 million more in accounts receivable and an additional $18.4 million growth
in long-term contracts receivable. Accounts receivable balances grew
significantly during the last six months of 1997 primarily due to increased
revenues during the third and fourth quarters and due to the timing of revenues
during those quarters. Long-term contracts receivable balances grew due to an
increase in outsourcing revenues for the Company. Outsourcing revenues are
recognized on a percentage-of-completion basis while billing occurs as meters
are read. Therefore, in the installation years of an outsourcing agreement the
contract's long-term receivable balance will grow. It will begin to decline once
the system is fully installed and all meters subject to the contract are being
read. During 1997, increases in receivables were offset, to a large degree, by a
decrease in inventory balances and increased accounts payable and accrued
expenses. Net operating activities consumed $16.9 million in cash in 1996
compared with providing $11.2 million in cash in 1995. Most of the 1996 cash
consumption was driven by growth in inventories, which were built in
anticipation of AMR customer orders in excess of what was realized. The Company
expects to generate cash from operating activities in 1998.
Net investing activities consumed $34.1 million of cash in 1997,
compared to $24.8 million in 1996 and $17.4 million in 1995. In 1997, $27.5
million was used to purchase equipment for outsourcing agreements. This compares
to $17.3 million of purchases for outsourcing equipment in 1996 and $2.4 million
in 1995. New equipment investments from outsourcing contracts in 1998 are
expected to be approximately one-half the 1997 level. During 1997 the Company
invested considerably less for property and equipment than during the previous
two years, having spent $9.4 million in 1997 compared to $27.5 million in 1996
and $16.6 million in 1995. Additions to production capacity and an expansion of
facilities at the Company's headquarters in Spokane accounted for most of the
capital additions in both 1996 and 1995. The Company substantially completed its
capacity expansion program in the fourth quarter of 1996 and believes its AMR
meter module production capacity is sufficient for 1998. Capital acquisitions in
1998 are expected to be slightly more than the 1997 level. Other investing
activities in 1997 were not material. Other investing activities in 1996
consisted primarily of proceeds from the liquidation of $25.1 million of
short-term investments.
Net financing activities generated $38.1 million in 1997 compared to
$37.5 million in 1996 and $1.7 million in 1995. Net cash of $61.0 million from
the Company's offering of convertible subordinated debt in March of 1997 was
used to repay $31.5 million of borrowings under the Company's line of credit
agreement. Other financing activities in 1997 consisted of project financing
borrowings of $2.4 million, and $6.2 million of cash received from the exercise
of options, warrants and employee stock purchases. Financing activities in 1996
consisted principally of borrowings under the Company's bank line of credit
agreement, as well as funds received from the exercise of employee stock options
and the related tax benefit. Net cash provided by financing activities in 1995
consisted primarily of cash proceeds from the Company's stock offering in
December 1994.
The Company believes its cash position at the end of 1997 and expected
cash generation from operations in 1998, together with renewal of its $50
million credit facility in May 1998, will be more than adequate to fund its
operations throughout 1998. While the Company expects its credit facility to be
renewed in the ordinary course of business, there can be no assurance that it
will be renewed, or will be renewed on terms acceptable to the Company or at
sufficient levels. The Company expects to finance the majority of future
outsourcing contract investments with project financing.
CERTAIN FORWARD-LOOKING STATEMENTS
When included in this discussion, the words "expects," "intends,"
"anticipates," "plans," "projects," "estimates," and analogous or similar
expressions are intended to identify forward-looking statements. Such statements
are inherently subject to a variety of risks and uncertainties that could cause
actual results to differ materially from those reflected in such forward-looking
statements. Such risks and uncertainties include, among others, changes in the
utility regulatory environment, delays or difficulties in introducing new
products and acceptance of those products, increased competition and various
other matters, many of which are beyond the Company's control. For a more
complete description of these and other risks, see "Description of
Business--Certain Risk Factors" included elsewhere herein. These forward-looking
statements speak only as of the date of this report. The Company expressly
disclaims any obligation or undertaking to release publicly any updates or
revisions to any forward-looking statement contained herein to reflect any
change on the Company's expectations with regard thereto or any change in
events, conditions or circumstances on which any such statement is based.
Item 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF MANAGEMENT
To the Board of Directors and Shareholders of Itron, Inc.
Management is responsible for the preparation of the Company's
consolidated financial statements and related information appearing in this
annual report. Management believes that the consolidated financial statements
fairly reflect the form and substance of transactions and that the financial
statements reasonably present the Company's financial position and results of
operations in conformity with generally accepted accounting principles.
Management has included in the Company's financial statements amounts based on
estimates and judgments that it believes are reasonable under the circumstances.
Management's explanation and interpretation of the Company's overall
operating results and financial position, with the basic financial statements
presented, should be read in conjunction with the entire report. The Notes to
Consolidated Financial Statements, an integral part of the basic financial
statements, provide additional detailed financial information. The Board of
Directors of the Company has an Audit Committee composed of non-management
Directors. The Committee meets with financial management and Deloitte & Touche
LLP to review accounting control, auditing and financial reporting matters.
Johnny M. Humphreys David G. Remington
President and Chief Vice President and
Executive Officer Chief Financial Officer
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Shareholders of Itron, Inc.
We have audited the accompanying consolidated balance sheets of Itron,
Inc. and subsidiaries as of December 31, 1997 and 1996, and the related
consolidated statements of income, shareholders' equity, and cash flows for each
of the three years in the period ended December 31, 1997. Our audits also
included the financial statement schedule listed in the Index at Item 14. These
financial statements and financial statement schedule are the responsibility of
the management of Itron, Inc. and subsidiaries. Our responsibility is to express
an opinion on the financial statements and financial statement schedule based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements presents fairly,
in all material respects, the financial position of Itron, Inc. and subsidiaries
at December 31, 1997 and 1996, and the results of their operations and their
cash flows for each of the three years in the period ended December 31, 1997, in
conformity with generally accepted accounting principles. Also, in our opinion,
such financial statement schedule, when considered in relation to the basic
consolidated financial statements taken as a whole, presents fairly, in all
material respects, the information set forth therein.
Deloitte & Touche LLP
Seattle, Washington
February 6, 1998
CONSOLIDATED STATEMENTS OF OPERATIONS
Year ended December 31,
- ----------------------------------------------------------------------------------------------------------------------------
(In thousands, except per share data) 1997 1996 1995
- ------------------------------------------------------------------------ ----------------- ---------------- -----------------
Revenues
AMR systems $143,472 $129,576 $98,724
Handheld systems 49,409 45,084 60,952
Outsourcing 23,236 2,924 1,659
----------------- ---------------- -----------------
Total revenues 216,117 177,584 161,335
Cost of revenues
AMR systems 84,069 76,286 53,441
Handheld systems 33,108 26,370 35,111
Outsourcing 18,182 2,052 1,044
----------------- ---------------- -----------------
Total cost of revenues 135,359 104,708 89,596
----------------- ---------------- -----------------
Gross profit 80,758 72,876 71,739
Operating expenses
Sales and marketing 29,613 28,847 20,054
Product development 32,220 33,285 27,080
General and administrative 12,064 10,970 7,589
Amortization of intangibles 2,190 1,542 2,336
----- ----- -----
Total operating expenses 76,087 74,644 57,059
Operating income (loss) 4,671 (1,768) 14,680
Other income (expense)
Equity in affiliates (1,120) (50) -
Gain on sale of business interest 2,000 - -
Interest, net (3,916) (316) 1,721
----------------- ---------------- -----------------
Total other income (expense) (3,036) (366) 1,721
Income (loss) before income taxes 1,635 (2,134) 16,401
Income tax (provision) benefit (625) 670 (5,250)
----------------- ---------------- -----------------
Net income (loss) $1,010 $(1,464) $11,151
----------------- ---------------- -----------------
Basic earnings (loss) per share $.07 $(.11) $.85
Diluted earnings (loss) per share .07 (.11) .81
Weighted average shares outstanding 14,118 13,297 13,095
Diluted average shares outstanding 14,562 13,297 13,775
CONSOLIDATED BALANCE SHEETS
December 31,
- ---------------------------------------------------------------------------------------------------------------------------
(In thousands) 1997 1996
- --------------------------------------------------------------------------------- -------------------- --------------------
Assets
Current assets
Cash and cash equivalents $3,023 $2,243
Accounts receivable, net 61,442 42,166
Current portion of long-term contracts receivable 8,445 118
Inventories 31,985 35,179
Deferred income tax asset 5,668 4,171
Other 1,888 6,116
-------------------- --------------------
Total current assets 112,451 89,993
-------------------- --------------------
Property, plant and equipment, net 49,067 51,699
Equipment used in outsourcing, net 42,848 19,650
Intangible assets, net 21,472 23,344
Long-term contracts receivable 11,119 1,187
Deferred income tax asset 1,125 230
Other 2,129 568
-------------------- --------------------
Total assets $240,211 $186,671
-------------------- --------------------
Liabilities and shareholders' equity
Current liabilities
Short-term borrowings $1,560 $33,062
Accounts payable and accrued expenses 26,644 19,921
Wages and benefits payable 9,181 4,004
Deferred revenue 6,759 6,767
-------------------- --------------------
Total current liabilities 44,144 63,754
-------------------- --------------------
Mortgage notes payable 6,440 6,440
Convertible subordinated debt 63,400 -
Project financing 2,414 -
Deferred income tax liability 2,499 -
Warranty and other obligations 887 2,255
-------------------- --------------------
Total liabilities 119,784 72,449
-------------------- --------------------
Commitments and contingencies (Note 7)
Shareholders' equity
Common stock, no par value, 75 million shares authorized, 14,602,312
and 13,387,042 shares issued and outstanding 105,136 98,686
Warrants 57 338
Foreign currency translation adjustment (1,081) (107)
Retained earnings 16,315 15,305
-------------------- --------------------
Total shareholders' equity 120,427 114,222
-------------------- --------------------
Total liabilities and shareholders' equity $240,211 $186,671
-------------------- --------------------
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Common Stock Retained
-------------------------------
(In thousands) Shares Amount Warrants Other Earnings
- ----------------------------------------- --------------- --------------- --------------- ---------------- ---------------
Balances at December 31, 1994 12,910 $90,186 $338 $(515) $7,468
--------------- --------------- --------------- ---------------- ---------------
Net income - - - - 11,151
Stock Issues:
Public offering 75 1,351 - - -
Options exercised and related tax 161 2,291 - - -
benefits
Employee savings plan 11 280 - -
Dividends paid (1,650)
Unrealized gain on investments - - - 236 -
Foreign currency translation - - - 137 -
--------------- --------------- --------------- ---------------- ---------------
Balances at December 31, 1995 13,157 94,108 338 (142) 16,969
--------------- --------------- --------------- ---------------- ---------------
Net (loss) - - - - (1,464)
Stock Issues:
Options exercised and related tax 199 3,480 - - -
benefits
Employee savings plan 23 670 - - -
Employee stock purchase plan 8 428 - - -
Dividends paid - - - - (200)
Unrealized loss on investments - - - (158) -
Foreign currency translation - - - 193 -
--------------- --------------- --------------- ---------------- ---------------
Balances at December 31, 1996 13,387 98,686 338 (107) 15,305
--------------- --------------- --------------- ---------------- ---------------
Net income - - - - 1,010
Stock Issues:
Options exercised and related tax 57 827 - - -
benefits
Employee savings plan 44 935 - - -
Employee stock purchase plan 43 451 - - -
Warrants exercised 312 3,915 (281) - -
DCI acquisition 759 322 - - -
Foreign currency translation - - - (974) -
--------------- --------------- --------------- ---------------- ---------------
Balances at December 31, 1997 14,602 $105,136 $57 $(1,081) $16,315
--------------- --------------- --------------- ---------------- ---------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year ended December 31,
- -------------------------------------------------------------------------------------------------------------------------
(In thousands) 1997 1996 1995
- -------------------------------------------------------------------------- --------------- --------------- --------------
Operating Activities
Net income (loss) $1,010 $(1,464) $11,151
Noncash charges (credits) to income:
Depreciation and amortization 16,781 10,522 8,370
Deferred income tax 107 (1,545) 758
Equity in affiliates, net (879) (50) -
Changes in operating accounts, net of acquisitions:
Accounts receivable (19,158) (4,151) (9,659)
Inventories 3,194 (17,114) (5,509)
Accounts payable and accrued expenses 7,107 3,631 3,935
Wages and benefits payable 5,177 (510) 744
Deferred revenue (8) (1,439) 857
Long-term contracts receivable (18,377) (1,305) -
Other, net 1,828 (3,437) 579
--------------- --------------- --------------
Cash provided (used) by operating activities (3,218) (16,862) 11,226
Investing Activities
Change in short-term investments - 25,074 5,614
Acquisition of property, plant and equipment (9,329) (27,500) (16,584)
Acquisition of equipment used in outsourcing (27,478) (17,254) (2,396)
Proceeds from sale of equipment used in outsourcing 3,035 - -
Proceeds from sale of business interest 1,000 - -
Acquisitions of intangibles and patent defense costs (1,703) (4,728) (3,808)
Other, net 410 (441) (283)
--------------- --------------- --------------
Cash used by investing activities (34,065) (24,849) (17,457)
Financing Activities
Change in short-term borrowings, net (31,502) 33,062 -
Issuance of convertible subordinated debt 63,400 - -
Debt issuance costs (2,355) - -
Project financing 2,414 - -
Issuance of common stock 6,169 4,578 3,642
Dividends paid - (200) (1,650)
Other, net (63) 41 (288)
--------------- --------------- --------------
Cash provided by financing activities 38,063 37,481 1,704
--------------- --------------- --------------
Increase (decrease) in cash and cash equivalents 780 (4,230) (4,527)
--------------- --------------- --------------
Cash and cash equivalents at beginning of period 2,243 6,473 11,000
--------------- --------------- --------------
Cash and cash equivalents at end of period $3,023 $2,243 $6,473
--------------- --------------- --------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business
Itron, Inc. (the "Company") is a leading global provider to the utility
industry of solutions for collecting, communicating and analyzing electric, gas
and water usage data. The Company designs, develops, manufactures, markets,
sells, installs and services hardware, software and integrated systems for
handheld computer-based electronic meter reading (EMR) and automatic meter
reading (AMR).
Basis of Consolidation
The consolidated financial statements include the accounts of Itron,
Inc. and its wholly owned subsidiaries. As described in Note 5, on March 25,
1996, Utility Translation Systems, Inc. ("UTS"), which was acquired in a
pooling-of-interests transaction, became a wholly owned subsidiary of the
Company. These consolidated financial statements reflect the combined financial
position and operating results of Itron and UTS for all periods presented. All
significant intercompany transactions and balances are eliminated. Investments
in affiliates are accounted for using the equity method.
Cash and Cash Equivalents
The Company considers all highly liquid instruments with original
maturities of three months or less to be cash equivalents. Cash equivalents are
recorded at cost, which approximates fair value.
Short-Term Investments
The Company's short-term investments are classified as
available-for-sale and are recorded at market value. Investments are accounted
for on a trade date basis and market value is based upon quoted market prices
for each security. Realized gains and losses are determined on a
security-by-security basis (the specific identification method). Unrealized
holding gains and losses, net of any tax effect, are recorded as a component of
shareholders' equity.
Inventories
Inventories are stated at the lower of cost or market using the
first-in, first-out method. Cost includes raw materials and labor, plus applied
direct and indirect costs. Service inventories consist primarily of
sub-assemblies and components necessary to support post-sale maintenance.
Property, Plant and Equipment
Property and equipment are stated at cost and are depreciated over
their estimated useful lives of three to seven years, or over the term of the
applicable capital lease, if shorter, using the straight-line method. Equipment
used in outsourcing contracts is depreciated using the straight-line method over
the shorter of the useful life or the term of the contract, generally 15 years.
Plant is depreciated over 30 years using the straight-line method. The carrying
value of property, plant and equipment is reviewed on a regular basis for
impairment. The Company capitalizes interest as a component of the cost of
property, plant and equipment constructed for its own use. In 1997 and 1996
total interest expense was $5.2 million and $1.4 million, respectively, of which
$994,000 and $533,000, respectively, was capitalized. There was no interest
capitalized in 1995.
Intangible Assets
Goodwill represents the excess cost of acquired businesses over the
fair value of their net assets and is amortized using the straight-line method
over periods ranging from three to 20 years. Patents, distribution and product
rights are amortized using the straight-line method over their remaining lives
of three to 17 years. Capitalized software includes costs incurred subsequent to
the establishment of technological feasibility of the related product and is
amortized using the straight-line method for a period not to exceed five years.
Management regularly reviews the carrying value of intangible assets for
impairment.
Warranty
The Company offers standard warranty terms on its product sales.
Provision for estimated warranty costs is recorded at the time of sale and
periodically adjusted to reflect actual experience. The noncurrent warranty
reserve covers future expected costs of testing and replacement of radio meter
module batteries. Warranty expense was $3.8 million in 1997, $3.1 million in
1996, and $1.8 million in 1995.
Income Taxes
The Company accounts for income taxes using the asset and liability
method. Under this method, deferred income taxes are recorded for the temporary
differences between the financial reporting basis and tax basis of the Company's
assets and liabilities. These deferred taxes are measured by the provisions of
currently enacted tax laws. Management believes that it is more likely than not
that the Company will generate sufficient taxable income to allow the
realization of its deferred tax asset.
Foreign Exchange
The consolidated financial statements are prepared in United States
dollars. Assets and liabilities of foreign subsidiaries are denominated in
foreign currencies and are translated to United States dollars at the exchange
rates in effect on the balance sheet date. Revenues, costs of revenues and
expenses for these subsidiaries are translated using an average rate for the
related reporting period. Translation adjustments resulting from this process
are a component of shareholders' equity.
Revenue Recognition
System sales: Revenues from hardware sales and software licenses are
generally recognized upon shipment. Service revenues are recognized ratably over
the periods covered by the service contracts, or as the services are performed.
Revenues for shipments or post-sale maintenance not yet billed are included in
accounts receivable or other noncurrent assets depending on the expected period
of collection. Deferred revenue is recorded for products or services which have
been paid for by a customer but have not yet been provided.
Large custom systems and outsourcing contracts: Large custom systems
include those in which there is a substantial amount of custom software
development. Outsourcing services may encompass the installation, operation
and/or maintenance of meter reading systems to provide meter information to a
utility for billing and management purposes. Revenues are recognized using the
cost-to-cost, percentage-of-completion long-term contract method of accounting.
Under this method, revenues reported during a period are based on the percentage
of estimated total revenues to be received under the contract measured by the
percentage of costs incurred to date to estimated total costs for each contract.
This method is used because management believes costs incurred are the best
available measure of progress on these contracts. Contract costs include all
direct material and labor costs and other indirect costs related to contract
performance such as indirect labor, supplies, tools, repairs and depreciation
costs. Provisions for estimated losses on uncompleted contracts are recognized
in the period in which such losses are determined. Changes in estimated
profitability, including those arising from contract penalty provisions and
final contract settlements, may result in revisions to costs and income and are
recognized in the period in which the revisions are determined. Revenues from
large custom systems and outsourcing revenues that are recognized in excess of
amounts billed, are included in long-term contracts receivable or the current
portion of long-term contracts receivable depending on the expected period of
collection.
Earnings Per Common Share
Basic earnings per share is computed on the basis of the weighted
average number of common shares outstanding during the period. Diluted earnings
per share is computed on the basis of the weighted average number of common
shares outstanding plus the effect of "in the money" outstanding stock options
and warrants using the "treasury stock" method and convertible subordinated debt
using the "if converted" method, to the extent the use of these methods are not
anti-dilutive. The Company has adopted the provisions of Statement of Financial
Accounting Standards (SFAS) No. 128, "Earnings Per Share" effective December 31,
1997. The Statement requires the calculation and disclosure of basic and diluted
earnings per share. All prior period earnings per share and average shares
outstanding data has been restated to reflect the adoption of this statement.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period. The
Company uses the cost-to-cost, percentage-of-completion method of long-term
contract accounting which requires the Company to estimate the total cost of
providing outsourcing and other services over long periods of time, typically 15
years. Because of various factors affecting future costs and operations, actual
results could differ from estimates.
Reclassifications
Certain amounts in the 1996 and 1995 financial statements have been
reclassified to conform with 1997 presentation.
Note 2: Balance Sheet Components
December 31,
- ---------------------------------------------------------------------------------------------------------------------------
(In thousands) 1997 1996
- ---------------------------------------------------------------------------- ----------------------- -----------------------
Accounts receivable
Trade (net of allowance for doubtful accounts of $752 and $752) $40,023 $30,646
Unbilled revenue 21,419 11,520
----------------------- -----------------------
Total accounts receivable $61,442 $42,166
----------------------- -----------------------
Inventories
Material $14,418 $22,687
Work in process 3,138 1,570
Finished goods 7,304 9,047
Field inventories awaiting installation 5,178 1,342
----------------------- -----------------------
Total manufacturing inventories 30,038 34,646
Service inventories 1,947 533
----------------------- -----------------------
Total inventories $31,985 $35,179
----------------------- -----------------------
Property, plant and equipment
Machinery and equipment $39,821 $37,715
Equipment used in outsourcing 44,093 19,650
Computers and purchased software 22,716 21,535
Buildings, furniture and improvements 21,191 20,345
Land 2,052 2,078
----------------------- -----------------------
Total cost 129,873 101,323
Accumulated depreciation (37,958) (29,974)
----------------------- -----------------------
Property, plant and equipment, net $91,915 $71,349
Intangible assets
Goodwill $16,991 $16,991
Capitalized software 6,370 6,370
Distribution and product rights 3,308 2,491
Patents 5,706 4,860
----------------------- -----------------------
Total cost 32,375 30,712
Accumulated amortization (10,903) (7,368)
----------------------- -----------------------
Intangible assets, net $21,472 $23,344
----------------------- -----------------------
Note 3: Statement of Cash Flows Data
Supplemental disclosure of cash flow information:
December 31,
- ---------------------------------------------------------------------------------------------------------------------------
(In thousands) 1997 1996 1995
- ---------------------------------------------- ------------------------- ------------------------ -------------------------
Income taxes paid $569 $1,418 $3,076
Interest paid 3,580 1,172 197
Note 4: Notes Payable
Short-term Borrowings
The Company may borrow up to $50 million under the terms of an
unsecured revolving credit agreement with two banks. Interest rates depend on
the form of borrowing and vary based on published rates. As of December 31, 1997
the weighted average interest rate was approximately 7.4%. Additionally, the
Company is required to pay an annual facility fee of .05% of the total available
loan commitment and a fee of .25% on the unused commitment. Any borrowings
mature on May 31, 1998. The agreement contains covenants that require the
Company to maintain certain minimum working capital and tangible net worth
ratios and dollar limits with which the Company is in compliance.
Mortgage Notes Payable
Long-term debt consists of the following:
December 31,
- ---------------------------------------------------------------------------------------------------------------------------
(In thousands) 1997 1996
- --------------------------------------------------------------------------- ----------------------- -----------------------
Secured mortgage note payable to a shareholder with interest only $5,600 $5,600
payments of 7 1/2% until August 1, 1998 and then principal and interest
payments of 9% until maturity on August 1, 2015.
Secured mortgage note payable to a shareholder with interest only $840 $840
payments of 7 1/2% until June 1, 1999 and then principal and interest
payments equal to 8 1/2% until maturity on June 1, 2019.
The Company incurred the above notes in conjunction with the purchase
of the Company's headquarters and additional manufacturing space in Spokane,
Washington. Principal payments due under these notes are $12,000 in 1998,
$46,000 in 1999, $61,000 in 2000, $66,000 in 2001, $72,000 in 2002 and $6.2
million thereafter.
Convertible Subordinated Debt
December 31,
- ---------------------------------------------------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------- ----------------------- ----------------------
Unsecured, convertible subordinated notes $63,400 -
The Company completed a $63.4 million convertible subordinated note
offering in March 1997. Interest of 6-3/4% on the notes is payable semi-annually
on March 31 and September 30 of each year until maturity on March 31, 2004. The
notes have no sinking fund requirements and are convertible, in whole or in
part, at the option of the holder at any time prior to maturity at a price of
$23.70 per common share. The notes are redeemable, in whole or in part, at the
option of the Company at any time on or after April 4, 2000 at specified
redemption prices.
Note 5: Fair Values of Financial Instruments
Under SFAS No. 107, "Fair Value Disclosures about Financial
Instruments," the Company is required to disclose the fair value of financial
instruments when fair value can reasonably be estimated. The values provided are
representative of fair values only as of December 31, 1997 and 1996 and do not
reflect subsequent changes in the economy, interest and tax rates, and other
variables that may impact determination of fair value. The following methods and
assumptions were used in estimating fair values:
Cash and cash equivalents: The carrying value approximates fair value
due to the short maturity of these instruments.
Long-term contracts receivable: The fair value of the non-current
portion of long-term contracts receivable is based on the discounted value of
expected future cash flows.
Mortgage notes payable: The fair value is estimated based on the
current borrowing rates available for similar issues.
Convertible subordinated debt: The fair value is estimated based on the
current trading activity of the notes.
December 31,
- ---------------------------------------------------------------------------------------------------------------------------
(In thousands) 1997 1996
- --------------------------------------- --------------------------------------- -------------------------------------------
Carrying Amount Fair Value Carrying Amount Fair Value
Cash and cash equivalents $3,023 $3,023 $2,243 $2,243
Long-term contracts receivable 11,119 9,736 1,187 1,066
Mortgage notes payable 6,440 6,897 6,440 6,230
Convertible subordinated debt 63,400 61,181 - -
Note 6: Business Combinations
Design Concepts, Inc. (DCI)
On May 2, 1997, the Company acquired Design Concepts, Inc. ("DCI"), an
Idaho-based company that supplies outage detection, power quality monitoring and
AMR systems which communicate collected data over telephone lines for electric
meters. Pursuant to the Agreement and Plan of Merger dated April 30, 1997, (the
"Merger Agreement"), the Company issued 759,297 shares of unregistered Itron
common stock to the shareholders of DCI in exchange for all outstanding shares
of DCI. Certificates representing 75,930 shares issued in the Merger were placed
in escrow and are available to compensate Itron for any losses incurred by
reason of any breach by DCI of the Merger Agreement. The escrow terminates on
May 2, 1998 at which time any shares not subject to a disputed claim will be
released to DCI shareholders.
The Merger was accounted for as a pooling-of-interests transaction.
Because DCI's results of operations and financial position were immaterial to
the Company's financial statements, no restatement of prior periods has been
made. Balances related to DCI have been included in the 1997 financial
statements of the Company.
Utility Translation Systems (UTS)
On March 25, 1996 the Company merged with UTS, a provider of software
and support services that translates, communicates and analyzes energy
consumption data. The Company issued 971,427 shares of unregistered Itron Common
Stock to the shareholders of UTS in exchange for all of the outstanding shares
of UTS. The Merger was accounted for as a pooling-of-interests.
Metscan
In September 1995, the Company purchased the assets of Metscan, Inc., a
manufacturer of telephone-based data collection technology for gas meters. Of
the $4.6 million purchase price, $3.8 million was paid in cash at closing, with
a $735,000 holdback pending settlement of potential warranty or other claims as
of December 31, 1995. As of December 31, 1996 the entire amount of the holdback
had been used to settle such warranties and claims. Approximately $2.3 million
of the purchase price was allocated to tangible assets and the remaining $2.3
million to intangible assets which are being amortized over five years. The
acquisition was accounted for as a purchase.
Note 7: Commitments and Contingencies
Commitments
The Company has noncancelable operating leases for office, production
and storage space expiring at various dates through June 2008. The Company's
obligations under capital leases are insignificant. Future minimum payments
required under operating leases at December 31, 1997 are $1.7 million in 1998,
$1.7 million in 1999, $1.6 million in 2000, $1.2 million in 2001, $1.0 million
in 2002 and $2.2 million thereafter.
Total rent expense under noncancelable operating leases is as follows:
Year Ended December 31,
- ---------------------------------------------------------------------------------------------------------------------------
(In thousands) 1997 1996 1995
- ------------------------------------------------------- ---------------------- --------------------- ----------------------
Related parties $7 $7 $430
Unrelated parties 1,616 1,505 1,396
---------------------- --------------------- ----------------------
Total $1,623 $1,512 $1,826
---------------------- --------------------- ----------------------
In order to maintain certain distribution rights, the Company has
agreed to purchase minimum quantities of components from various suppliers.
Minimum purchase requirements under these agreements are approximately $7.4
million in 1998, $6.5 million in 1999, $5.1 million in 2000, $3.7 million in
2001 and $4.2 million in 2002. The Company believes these commitments are not in
excess of anticipated requirements.
Contingencies
The Company, together with certain directors and officers, is a
defendant in two shareholder-initiated proposed class actions (one in Federal
court and one in Washington State court) alleging securities and other statutory
and common law violations arising out of alleged misleading disclosures or
omissions made by the Company regarding its business and technology. The Company
is also a defendant in a patent infringement lawsuit filed by CellNet Data
Systems. The Company believes these actions are without merit and intends to
vigorously defend against them. At this time, it is not possible to predict the
ultimate outcome of these proceedings.
Note 8: Warrants
At December 31, 1997 and 1996, the Company had outstanding warrants to
purchase 62,500 and 375,000 shares, respectively, of common stock at $11.63
each. The remaining warrants at December 31, 1997 were granted in September 1990
at fair market value and expire in September 1998.
Note 9: Employee Benefits
The Company has an employee incentive savings plan in which
substantially all employees are eligible to participate. Employees may
contribute on a tax-deferred basis up to 15% of their salary, 50% of which,
subject to certain limitations, is matched by the Company by issuance of common
stock. The expense for the Company's matching contribution was $1.1 million in
1997, $798,000 in 1996 and $310,000 in 1995. The Company does not offer
post-employment or post-retirement benefits.
Note 10: Stock Based Compensation Plans
At December 31, 1997, the Company had two stock-based compensation
plans, which are described below. The Company applies APB Opinion 25 and related
interpretations in accounting for its plans. Accordingly, no compensation cost
has been recognized for its stock option plans. Had compensation cost for the
Company's stock-based compensation plans been determined based on the fair value
at the grant dates for awards under those plans consistent with the method
prescribed in SFAS No. 123, the Company's net income and diluted earnings per
share would have been reduced to the proforma amounts indicated below:
Year Ended December 31,
- ----------------------------------------------------- ---------------- ----------------- ----------------- ----------------
(In thousands, except per share data) 1997 1996 1995
- ----------------------------------------------------- ---------------- ----------------- ----------------- ----------------
Net income (loss) As reported $1,010 $(1,464) $11,151
Proforma (3,679) (7,763) 8,232
Diluted earnings (loss) per share As reported .07 (.11) .81
Proforma (.25) (.58) .60
The weighted average fair value of options granted was $12.86, $18.64
and $11.74 for 1997, 1996 and 1995, respectively. The fair value of each option
granted during 1997, 1996 and 1995 is estimated on the date of grant using the
Black-Scholes option-pricing model using the following assumptions:
1997 1996 1995
- ----------------------------------------------------- ---------------------- ---------------------- ---------------------
Dividend yield 0% 0% 0%
Expected volatility 57% 55% 44%
Risk-free interest rate 6.5% 6.2% 6.4%
Expected life (years) 6.0 6.0 4.8
For various price ranges, weighted average characteristics of
outstanding stock options at December 31, 1997 were as follows:
(Shares in thousands) Outstanding Options Exercisable Options
- ---------------------------------------------- -------------------------------------------- -----------------------------
Range of Shares Remaining Price Shares Price
Exercise Prices Life (years)
- ---------------------------------------------- -------------- --------------- ------------- --------------- --------------
$ .17 - 10.00 118 3.1 $4.98 108 $5.47
10.01 - 20.00 922 7.8 17.31 505 15.97
20.01 - 30.00 1,040 8.9 22.00 161 25.05
30.01 - 58.75 16 8.3 53.35 13 58.16
-------------- --------------- --------------
2,096 8.1 $19.17 787 $17.10
-------------- --------------- --------------
1989 Restated Stock Option Plan
Under the Company's 1989 Restated Stock Option Plan, options to
purchase shares of common stock have been granted to directors and employees at
prices no less than the fair market value on the date of grant. Options
outstanding under the plan become fully exercisable within three or four years
from the date granted and terminate ten years from the date granted. Qualified
and nonqualified options are exercisable at prices ranging from $.17 to $51.19
per share. The price range of options exercised was $.86 to $24.25 in 1997,
$2.91 to $24.50 in 1996 and $2.91 to $17.88 in 1995. At December 31, 1997, there
were 3,177,995 shares of unissued common stock reserved for issuance under the
plan, of which options for the purchase of 1,179,239 shares were available for
future grants. Share amounts (in thousands) and weighted-average exercise prices
are as follows:
Year Ended December 31,
- -------------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- --------------------------------------- --------------------------- -------------------------- --------------------------
Shares Price Shares Price Shares Price
- --------------------------------------- ------------ -------------- ------------- ------------ ------------- ------------
Outstanding at beginning of year 1,267 $17.24 1,038 $17.36 864 $11.52
Granted 843 21.29 1,016 31.34 412 25.47
Exercised (57) 10.98 (152) 11.56 (159) 8.50
Canceled (54) 23.27 (635) 41.38 (79) 13.64
------------ ------------- -------------
Outstanding at end of year 1,999 $18.78 1,267 $17.24 1,038 $17.36
------------ ------------- -------------
Options exercisable at year end 690 $15.69 483 $13.44 411 $10.01
1992 Stock Option Plan for Nonemployee Directors
The Company's 1992 Stock Option Plan for Nonemployee Directors provides
for the annual grant of nonqualified options to purchase 2,000 shares of common
stock to nonemployee directors of the Company at an exercise price that is not
less than the fair market value per share at the date of grant. Outstanding
options granted under the plan are exercisable at prices ranging from $13.50 to
$58.75 per share. The options granted are fully vested and immediately
exercisable. At December 31, 1997, there were 153,000 shares of unissued common
stock reserved for issuance under the plan, of which options for the purchase of
56,000 shares were available for future grant. Share amounts (in thousands) and
weighted-average exercise prices are as follows:
Year Ended December 31,
- -------------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- ----------------------------------------- ------------------------- -------------------------- --------------------------
Shares Price Shares Price Shares Price
- ----------------------------------------- ------------ ------------ ------------- ------------ ------------ -------------
Outstanding at beginning of year 85 $28.14 87 $22.92 19 $16.47
Granted 12 19.88 12 58.75 70 24.50
Exercised - - (14) 21.96 (2) 17.00
------------ ------------- ------------
Outstanding at end of year 97 $27.11 85 $28.14 87 $22.92
------------ ------------- ------------
Options exercisable at year end 97 $27.11 85 $28.14 87 $22.92
Employee Stock Purchase Plan
Under the Company's Employee Stock Purchase Plan, the Company is
authorized to issue up to 80,000 shares of common stock to its eligible
employees who have completed three months of service, work more than 20 hours
each week and are employed more than five months in any calendar year. Employees
who own 5% or more of the Company's Common Stock are not eligible to participate
in the Plan. Under the terms of the Plan, eligible employees can choose payroll
deductions each year of up to 10% of their regular cash compensation. Such
deductions are applied toward the discounted purchase price of the Company's
Common Stock. The purchase price of the Common Stock is 85% of the fair market
value of the stock as defined in the Plan. Approximately 27% of eligible
employees have participated in the Plan since its inception on July 1, 1996.
Under the Plan the Company sold 43,057 shares to employees in 1997 and 8,331
shares in 1996.
Note 11: Shareholder Rights Plan
The Company adopted a Shareholder Rights Plan and in November 1993
declared a dividend of one common share purchase right (a "Right") for each
outstanding share of the Company's Common Stock. Under certain conditions, each
Right may be exercised to purchase one share of Common Stock at a purchase price
of $135 per share, subject to adjustment. The Rights will be exercisable only if
a person or group has acquired 15% or more of the outstanding shares of the
Company's Common Stock (excluding certain persons who owned more than 15% of the
Common Stock when the Shareholder Rights Plan was adopted). If a person or group
acquires 15% or more of the then outstanding shares of Common Stock, each Right
will entitle its holder to receive, upon exercise, Common Stock having a market
value equal to two times the exercise price of the Right. In addition, if the
Company is acquired in a merger or other business combination transaction, each
Right will entitle its holder to purchase that number of the acquiring company's
common shares having a market value of twice the Right's exercise price. The
Company is entitled to redeem the Rights at $.001 per Right at any time prior to
the earlier of the expiration of the Rights in July 2002 or the time that a
person has acquired a 15% position. The Rights do not have voting or
distribution rights, and until they become exercisable they have no effect on
the Company's earnings.
Note 12: Income Taxes
A reconciliation of income taxes at the U.S. Federal statutory rate of
35% to the consolidated effective tax for continuing operations is as follows:
Year Ended December 31,
- ---------------------------------------------------------------------------------------------------------------------------
(In thousands) 1997 1996 1995
- ---------------------------------------------------------------------- ----------------- ----------------- ----------------
Expected federal income tax (benefit) $572 $(747) $5,740
State income taxes 89 (19) 533
Goodwill amortization 302 309 349
Exempt interest - (152) (593)
Foreign sales corporation (107) (68) (49)
Tax credits (348) (762) (433)
Foreign operations (174) 59 (234)
UTS acquisition 152 376 (372)
Meals and entertainment 134 243 132
Other, net 5 91 177
Provision (benefit) for income taxes $625 $(670) $5,250
The domestic and foreign components of income before taxes were:
Year Ended December 31,
- ---------------------------------------------------------------------- ----------------------------------------------------
(In thousands) 1997 1996 1995
- ---------------------------------------------------------------------- ----------------- ----------------- ----------------
Domestic $2,965 $1,525 $15,507
Foreign (1,330) (3,659) 894
----------------- ----------------- ----------------
Income (loss) before income taxes $1,635 $(2,134) $16,401
----------------- ----------------- ----------------
The provision for income taxes consists of the following: Year Ended December 31,
- ---------------------------------------------------------------------- ----------------------------------------------------
(In thousands) 1997 1996 1995
- ---------------------------------------------------------------------- ----------------- ----------------- ----------------
Current:
Federal $331 $678 $4,104
State and local 133 197 388
Foreign 54 - -
Total current 518 875 4,492
Deferred:
Federal 762 (844) 1,033
State and local 38 130 (275)
Foreign (693) (831) -
----------------- ----------------- ----------------
Total deferred 107 (1,545) 758
----------------- ----------------- ----------------
Total provision (benefit) for income taxes $625 $(670) $5,250
----------------- ----------------- ----------------
The components of the provision (benefit) for deferred income taxes are: Year Ended December 31,
- -------------------------------------------------------------------------------------- ------------------------------------
(In thousands) 1997 1996 1995
- ---------------------------------------------------------------------- ----------------- ----------------- ----------------
Tax credits and loss carryforwards $(4,979) $(1,440) $370
Accrued expenses (866) (865) (442)
Acquisitions 16 375 -
Depreciation and amortization 1,496 981 (289)
Inventory (218) (1,270) (257)
Long-term contracts 4,643 712 1,384
Other, net 15 (38) (8)
----------------- ----------------- ----------------
Total deferred income taxes $107 $(1,545) $758
----------------- ----------------- ----------------
Deferred income taxes consisted of the following: December 31,
- ---------------------------------------------------------------------- ----------------------------------------------------
(In thousands) 1997 1996 1995
- ---------------------------------------------------------------------- ----------------- ----------------- ----------------
Deferred tax asset:
Tax credits $4,999 $3,765 $3,145
Loss carryforwards 4,589 844 -
Accrued expenses 4,033 3,167 1,707
Inventory valuation 2,175 1,957 622
Other, net 97 112 278
----------------- ----------------- ----------------
Total deferred tax asset 15,893 9,845 5,752
Deferred tax liability:
Acquisitions (391) (375) -
Depreciation and amortization (4,469) (2,973) (2,896)
Long term contracts (6,739) (2,096) -
Total deferred tax liability (11,599) (5,444) (2,896)
----------------- ----------------- ----------------
Net deferred tax asset $4,294 $4,401 $2,856
----------------- ----------------- ----------------
Valuation allowances of $70,000 and $1,616,000 in 1997, $129,000 and
$802,000 in 1996 and $35,000 and $379,000 in 1995, were provided for capital
loss carryforwards and foreign net operating loss carryforwards, respectively,
for which the Company may not receive future benefits.
The Company has research and development tax credits and net operating loss
carryforwards available to offset future income tax liabilities. The tax credits
of $4.8 million and the loss carryforwards of $4.6 million expire from 2004 -
2012, respectively. The Company also has alternative minimum tax credits,
totaling $170,000 that are available to offset future tax liabilities
indefinitely.
Note 13: Other Related Party Transactions
Certain of the Company's customers are also shareholders with more than
10% ownership interest and/or hold positions on Itron's Board of Directors.
Revenues from such customers were $4.8 million in 1997, $4.3 million in 1996,
and $2.1 million in 1995. Accounts receivable from these customers were $1.1
million and $362,000 at December 31, 1997 and 1996 respectively. Interest
expense related to notes payable to a shareholder was $483,000 in 1997, $456,000
in 1996 and $157,000 in 1995.
Note 14: Earnings Per Share and Capital Structure
Year Ended December 31,
- ---------------------------------------------------------------------------------------------------------------------------
(In thousands) 1997 1996 1995
- ---------------------------------------------------------------------- ----------------- ----------------- ----------------
Weighted average shares outstanding 14,118 13,297 13,095
Effect of dilutive securities:
Warrants 107 - 210
Stock options 337 - 470
----------------- ----------------- ----------------
Weighted average shares outstanding assuming conversion 14,562 13,297 13,775
----------------- ----------------- ----------------
The Company has granted options to purchase common stock to directors,
employees and other key personnel for fair market value on the date of grant.
Additionally, the Company issued warrants in conjunction with a Private
Placement in 1989 and 1990 for the formation of AMRplus Partners. The dilutive
effect of these options and warrants is included for purposes of calculating
dilutive earnings per share using the "treasury stock" method.
The Company also has subordinated convertible notes outstanding. These
notes are not included in the above calculation as the shares are anti-dilutive
when using the "if converted" method. There is no dilutive effect of securities
in 1996 as the Company incurred a loss for the year and including the securities
would have been anti-dilutive.
Note 15: Sale of Business Interest
The Company incurred a loss of $1.1 million during 1997 related to
business activities from a joint venture with a utility partner. Offsetting this
loss was a gain from the sale to this partner of certain business activities
previously performed by the joint venture, including meter shop services and
utility meter reading services.
Note 16: Segment Information
Summarized information regarding the Company's domestic and
international operations is as follows:
Consolidated
(In thousands) Domestic International Operations
- ---------------------------------------------------------------------- ----------------- ----------------- ----------------
Year ended December 31, 1997
Revenue $193,250 $22,867 $216,117
Income (loss) before income taxes 4,075 (2,440) 1,635
Identifiable assets 231,062 9,149 240,211
Year ended December 31, 1996
Revenue 162,494 $15,090 $177,584
Income (loss) before income taxes 6,009 (8,143) (2,134)
Identifiable assets 175,074 11,597 186,671
Year ended December 31, 1995
Revenue $134,111 $27,224 $161,335
Income (loss) before income taxes 18,020 (1,619) 16,401
Identifiable assets 139,223 10,495 149,718
Domestic information includes the United States and Canada.
Approximately 8% of 1997, 22% of 1996 and 14% of 1995 consolidated revenue
relates to a contract with a significant customer. International information
includes wholly owned subsidiaries located in the United Kingdom, France and
Australia as well as sales to international distributors, which were $9.7
million in 1997, $5.9 million in 1996 and $15.7 million in 1995. International
revenue includes sales to customers located in Asia, Europe, Australia, Japan,
Latin America, and the Middle East.
Note 17: Development Agreements
The Company receives funding to develop certain products under joint
development agreements with several companies. Intellectual property rights to
such developed products remain with the Company. Funding received under these
agreements is credited against product development expenses. The agreements
provide for royalty payments by the Company if successful products are developed
and sold. Additionally the Company is required to pay royalties on future sales
of products incorporating certain AMR technologies.
Funding received and royalty expense under these arrangements is as
follows:
Year Ended December 31,
- ---------------------------------------------------------------------------------------------------------------------------
(In thousands) 1997 1996 1995
- ---------------------------------------------------------------------- ----------------- ----------------- ----------------
Funding received $731 $143 $657
Royalties paid 1,524 1,614 $1,889
Note 18: Quarterly Results (Unaudited)
Quarterly results are as follows:
(In thousands, except per share data) Fourth Quarter Third Quarter Second Quarter First Quarter
- ------------------------------------------------------------- --------------- --------------- --------------- -------------
1997 Statement of operations data:
Total revenues 64,375 $58,427 $52,732 $40,583
Gross profit 25,748 22,100 19,291 13,619
Net income (loss) 3,301 1,643 (675) (3,259)
Diluted earnings (loss) per share .22 $.11 $(.05) $(.24)
1996 Statement of operations data:
Total revenues $42,594 $38,743 $48,195 $48,052
Gross profit 15,814 14,566 20,994 21,502
Net income (loss) (2,301) (4,546) 2,355 3,028
Diluted earnings (loss) per share $(.17) $(.34) $.17 $.21
Schedule II: VALUATION AND QUALIFYING ACCOUNTS
(In thousands of dollars) Additions Balance at end of period
------------------------------------------- ----------------------------
Balance at Charged to Charged to
beginning costs and other Non
Description of period expenses accounts (1) Deductions Current current
- -------------------------------------- ------------- -------------- -------------- -------------- ------------ -------------
Year ended December 31, 1995:
Inventory obsolescence 1,365 2,121 1,623 1,863
Warranty 2,327 1,452 794 882 2,103
Allowance for doubtful accts. 302 327 78 198 509
Year ended December 31, 1996:
Inventory obsolescence 1,863 5,722 3,454 4,131
Warranty 2,985 2,664 2,280 1,212 2,157
Allowance for doubtful accts. 509 550 307 752
Year ended December 31, 1997:
Inventory obsolescence 4,131 8,938 8,528 4,541
Warranty 3,369 7,600 7,451 2,666 852
Allowance for doubtful accts. 752 747 745 754
(1) Additions charged to other accounts consist of reserves of acquired
businesses.
Item 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
Item 10: DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The section entitled "Election of Directors" appearing in the
Registrant's Proxy Statement for the Annual Meeting of Shareholders to be held
on May 6, 1998 (the "1998 Proxy Statement") sets forth certain information with
regard to the directors of the Registrant and is incorporated herein by
reference. Certain information with respect to persons who are or may be deemed
to be executive officers of the Registrant is set forth under the caption
"Executive Officers of the Registrant" in Part I of this Annual Report on Form
10-K.
Item 11: EXECUTIVE COMPENSATION
The section entitled "Executive Compensation" appearing in the 1998
Proxy Statement sets forth certain information (except for those sections
captioned "Compensation Committee Report on Executive Compensation" and
"Performance Graph", which are not incorporated by reference herein) with
respect to the compensation of management of the Registrant and is incorporated
herein by reference.
Item 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The section entitled "Security Ownership of Certain Beneficial Owners
and Management" appearing in the 1998 Proxy Statement sets forth certain
information with respect to the ownership of the Registrant's Common Stock and
is incorporated herein by reference.
Item 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The section entitled "Certain Relationships and Related Transactions"
appearing in the 1998 Proxy Statement sets forth certain information with
respect to the certain business relationships and transactions between the
Registrant and its directors and officers and is incorporated herein by
reference.
PART IV
Item 14: EXHIBITS, FINANCIAL STATEMENTS SCHEDULES AND REPORTS ON FORM 8-K
1) List of Consolidated Financial Statements:
The following consolidated financial statements of Itron, Inc. and its
subsidiaries as contained in its 1997 Annual Report to Shareholders are
incorporated in Part II, item 8.
* Consolidated Statements of Operations
* Consolidated Balance Sheets
* Consolidated Statements of Shareholders' Equity
* Consolidated Statements of Cash Flows
* Notes to Consolidated Financial Statements
* Independent Auditors' Report
2) List of Financial Statement Schedules:
Schedule II - Valuation and Qualifying Accounts
3) Exhibits:
EXHIBIT
NUMBER DESCRIPTION OF EXHIBITS
3.1 Restated Articles of Incorporation of the Registrant. (A)
(Exhibit 3.1)
3.2 Restated Bylaws of the Registrant. (A) (Exhibit 3.2)
4.1 Rights Agreement between the Registrant and Chemical Trust
Company of California dated as of July 15, 1992.
(A) (Exhibit 4.1)
4.2 Indenture dated as of March 12, 1997 between the and Chemical
Trust Company of California, as trustee. *(I) (Exhibit 4.1)
10.1 Form of Change of Control Agreement between Registrant and
certain of its executive officers, together with schedule
executive officers who are parties thereto. *(D)(Exhibit 10.1)
10.2 Employment Agreement between the Registrant and Johnny M.
Humphreys dated February 9, 1987, First Addendum dated
November 22, 1988 and Second Addendum dated July 21, 1992.
*(A) (Exhibit 10.2)
10.3 Form of Confidentiality Agreement normally entered into with
employees. (A) (Exhibit 10.7)
10.4 Amended and Restated Registration Rights Agreement among the
Registrant and certain holders of its securities dated
March 25, 1996. (E) (Exhibit 10.4)
10.5 1989 Restated Stock Option Plan.(C) (Exhibit 10.7)
10.6 1992 Restated Stock Option Plan for Nonemployee Directors.
(F)(G)
10.7 Executive Deferred Compensation Plan. *(A) (Exhibit 10.12)
10.8 Form of Class A Warrant Certificates for shares of Common
Stock of the Registrant dated from July 10, 1989 to March 5,
1992, together between the company and BG Holding Inc.
(Exhibit 10.8) (C)
10.10 Form of Indemnification Agreements between the Registrant
and certain officers and directors. (D)(Exhibit 10.14)
10.11 Schedule of officers and directors who are parties to
Indemnification Agreements (see Exhibit 10.10 hereto) with
the Registrant.
10.12 Employment Agreement between the Registrant and Carl Robert
Aron dated November 22, 1995. * (D) (Exhibit 10.15)
10.13 Second Amendment to Employment Agreement between the
Registrant and Carl Robert Aron dated December 17, 1997. *
10.14 Employment Agreement between the Registrant and David G.
Remington dated February 29, 1996. * (D)(Exhibit 10.16)
10.15 Office Lease between the Registrant and Woodville Leasing
Inc. dated October 4, 1993. (B) (Exhibit 10.24).
10.16 Contract between the Registrant and Duquesne Light Company
dated January 15, 1996. (DELTA) (D) (Exhibit 10.18)
10.17 Amendment No. 1 to Amended and Restated Utility Automated
Meter Data Acquisition Lease and Services Agreement between
the Registrant and Duquesne Light Company dated September
11, 1997. (DELTA) (H) (Exhibit 10)
10.18 Purchase Agreement between the Registrant and Pentzer
Development Corporation dated July 11, 1995.(D)(Exhibit 10.19)
10.19 Loan Agreement between Itron, Inc. and Washington Trust Bank
dated July 1, 1996, as amended January 15, 1997. (E)
10.20 Third Amendment to Employment Agreement between the Registrant
and Carl Robert Aron dated March 20, 1997 *
11 Computation of Earnings per Share
12 Statement of Computation of Ratios
21.1 Subsidiaries of the Registrant
23.1 Independent Auditors' Consent
27. Financial Data Schedule Fiscal year end 1997.
- -------------------------------------------------------------------------------
(A) Incorporated by reference to designated exhibit included in the
Company's Registration Statement on Form S-1 (Registration #33-49832),
as amended, filed on July 22, 1992.
(B) Incorporated by reference to designated exhibit included in the
Company's 1993 Annual Report on Form 10-K filed on March 30, 1994.
(C) Incorporated by reference to designated exhibit included in the
Company's 1994 Annual Report on Form 10-K filed on March 30, 1995.
(D) Incorporated by reference to designated exhibit included in the
Company's 1995 Annual Report on Form 10-K filed on March 30, 1996.
(E) Incorporated by reference to designated exhibit included in the
Company's 1996 Annual Report on Form 10-K filed on March 5, 1997.
(F) Incorporated by reference to Appendix A to the Company's designated
Proxy Statement dated April 4, 1997 for its annual meeting of
shareholders held on April 29, 1997.
(G) Incorporated by reference to Appendix A to the Company's designated
Proxy Statement dated April 1, 1995 for its annual meeting of
shareholders held in April 25, 1995.
(H) Incorporated by reference to designated exhibit included in the
Company's Quarterly Report on Form 10-Q for the quarter ended September
30, 1997.
(I) Incorporated by reference to designated exhibit included in the
Company's 1996 Annual Report on Form 8-K dated March 18, 1997.
* Management contract or compensatory plan or arrangement.
(DELTA) Confidential treatment requested for a portion of this agreement.
4) Reports on Form 8-K:
A current report on Form 8-K, dated November 14, 1997, was filed during
the fourth quarter of 1997 regarding an amendment to the agreement with Duquesne
Light Company.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, in the City of
Spokane, State of Washington, on the 30th day of March 1998.
ITRON, INC.
By /s/DAVID G. REMINGTON
-----------------------------
David G. Remington
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed by the following persons in the capacities indicated
below on the 30th day of March, 1998.
Signature Title
- --------- -----
/s/PAUL A. REDMOND Chairman of the Board
- -------------------------
Paul A. Redmond
/s/JOHNNY M. HUMPHREYS President, Chief Executive Officer and
- ------------------------- Director (Principal Executive Officer)
Johnny M. Humphreys
/s/DAVID G. REMINGTON Chief Financial Officer (Principal
- ------------------------- Financial and Accounting Officer)
David G. Remington
/s/MICHAEL B. BRACY Director
- -------------------------
Michael B. Bracy
/s/TED C. DEMERRITT Director
- -------------------------
Ted C. DeMerritt
/s/JON E. ELIASSEN Director
- -------------------------
Jon E. Eliassen
/s/MARY ANN PETERS Director
- -------------------------
Mary Ann Peters
/s/GRAHAM M. WILSON Director
- -------------------------
Graham M. Wilson
/s/STUART E. WHITE Director
Stuart E. White