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iRobot Corporation (NASDAQ:IRBT)

Q4 2012 Results Earnings Call

February 7, 2013 8:30 AM ET

Executives

Elise Caffrey - Investor Relations

Colin Angle - Chairman and CEO

John Leahy - Chief Financial Officer

Analysts

Josephine Millward - Benchmark Company

Jim Ricchiuti - Needham & Company

Adam Fleck - Morningstar

Paul Coster - J.P. Morgan

Brian Ruttenbur - CRT Capital

Brian Gesuale - Raymond James

Jim Ricchiuti - Needham and Company

Operator

Good day, everyone. And welcome to the iRobot Q4 and Full Year 2012 Conference Call. This call is being recorded.

At this time for opening remarks and introductions, I would like to turn the call over to Elise Caffrey of iRobot Investor Relations. Please go ahead.

Elise Caffrey

Thank you and good morning. Before I introduce the iRobot management team, I’d like to note that statements made on today’s call that are not based on historical information are forward-looking statements made pursuant to the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995.

These forward-looking statements are subject to risks and uncertainties and involve a number of factors that could cause actual results to differ materially from those expressed or implied by such statements.

Additional information on these risks and uncertainties can be found in our public filings with the Securities and Exchange Commission. iRobot undertakes no obligation to update or revise these forward-looking statements, whether as a result of new information or circumstances.

During this conference call, we will also disclose non-GAAP financial measures as defined by SEC Regulation G, including adjusted EBITDA, which we define as earnings before interest, taxes, depreciation, amortization, merger and acquisition expenses, restructuring expenses, net intellectual property litigation expenses, and non-cash stock compensation.

A reconciliation of GAAP and non-GAAP metrics can be found in the financial tables at the end of the fourth quarter and full year 2012 earnings press release issued last evening, which is available on our website.

On today’s call, iRobot Chairman and CEO, Colin Angle will provide a review of the company’s operations and achievements for the fourth quarter and full year 2012, as well as our outlook on the business for 2013. And John Leahy, Chief Financial Officer will review our financial results for the fourth quarter and full year 2012 and our financial expectations for the first quarter ending March 30, 2013 and fiscal 2013. Then we’ll open the call for questions.

At this point, I’ll turn the call over to Colin Angle.

Colin Angle

Good morning and thank you for joining us. 2012 was a transformational year for our business and as we enter 2013, we are a different company than we were a year ago. Our business performance over the next few years will be primarily driven by our rapidly growing home technology business.

Home Robots is expected to grow roughly 20% this year and comprise 90% of total company revenue. In addition, we are developing a remote presence business and have stabilized our defense business. We are excited to be driving forward on a solid foundation again.

Last evening, we reported Q4 and full year results. We delivered EPS and adjusted EBITDA exceeding our fourth quarter and full year expectations, on revenue in line with our expectations.

Full year 2012 revenue was $436 million down just 6% year-over-year despite a decline of more than $100 million in D&S revenue. Earnings per share were $0.61 and adjusted EBITDA was $52 million or 12% of revenue. Our Home Robot results were exceptional and it is important not to allow them to be over-shadowed by the decline in D&S revenue.

Fiscal 2012 was truly a tale of two cities at iRobot. Our Home Robot business had a phenomenal year. Revenue increased 28% over 2011 and comprised 82% of the company’s total revenue for the year.

Our Defense & Security business was impacted by troop withdrawals in Afghanistan, a continuing resolution and uncertainty around sequestration. As a result, we reported a significant reduction in D&S revenue year-over-year.

Full year Home Robot revenues were driven by strong growth in both domestic and international markets, expanded distribution of the Roomba 700 series and the introduction of the Roomba 600 series were the primary drivers.

Throughout the year, we saw a direct correlation between our investment in marketing programs to generate greater brand awareness and revenue growth. In the second quarter we launched a multi-media advertising campaign in the U.S. aimed at the modern professional to drive premium brand identity. The program helped domestic revenue grow more than 40% year-over-year.

Likewise, our continuing investment to improve Home Robot product quality resulted in an adjustment to our product returns accrual that positively impacted both revenue and profit.

Higher quality robots and improved operational performance coupled with a premium ad campaign have proven to be a successful formula. We will continue to invest in these and other initiatives that expand our competitive moat and secure our market-leading position.

Our international Home Robot revenues grew more than 20% year-over-year. More than 80% of the year-over-year growth came from countries where we have been selling Roomba products since 2008, which clearly demonstrates the increased market penetration and not geographic expansion is driving sales.

The strong demand for our products overseas, despite the negative macros is due in part to continued investment by our distributors in marketing initiatives and also to an increasing awareness that robotic vacuum cleaners can replace traditional vacuum cleaners. Both Asia-Pacific and Europe were up roughly 20% year-over-year, driven by growth in Japan and Western Europe in their respective markets.

We expect continued growth in both the U.S. and overseas markets from expanded distribution of new products, deeper penetration of existing markets and further expansion into Latin America and China.

Revenue growth of approximately 20% in 2013 assumes integration of Mint, our floor sweeping robot into domestic channels and initial sales to European distributors by midyear of six months ahead of schedule.

We expect revenue in China and Latin America to comprise roughly 30% of the year-over-year overseas growth. This will be the first meaningful contribution to growth from geographic expansion since we entered the overseas markets in 2008.

Overall international revenue is expected to grow at roughly the same rate as in 2012. We are exiting 2012 with strong overseas growth but given the continuing economic uncertainties in Europe, we are assuming lower ‘13 growth in EMEA and while we are not seeing evidence of a downturn in current market data, we are being cautious about the negative macros and have set our expectations accordingly.

As we closed 2012, inventory levels at both domestic retailers and international distributors were lean, positioning us well for a solid start to 2013. Our Home Robot product pipeline is the most robust it has been in our company’s history and the multi-year outlook is very positive. I’m confident that we’ll continue to see strong growth driven by further penetration in domestic and international markets, and expansion of new product distribution.

The robot segment remains the fastest growing segment of the floor care category while the penetration rate is less than 10% worldwide. We saw a tremendous opportunity to expand our product offerings in this category through our acquisition of Evolution Robotics.

We continue to be on schedule with our integration of ER. Selective iRobot domestic retailers are in the process of adding Mint products to their floor care line and we expect that process to be complete before this year’s holiday season.

The Mint product is tailor-made for European and Asian markets, and we are ahead of our planned rollout to international distributors. We originally expected to begin shipping overseas in 2014.

Our operations team is working with ER contract manufacturers and component suppliers to implement savings result from our combined purchasing power. Expectations for the financial impact of the acquisition remain unchanged at this point for 2013.

We are optimistic about our ability to capture an increasing slice of the global robotic floor care market and believe double-digit growth is likely for years to come. Our go-to-market strategies have served us well and will not change in 2013. As always, we will balance continuing investments to support growth initiatives with generating increased profitability.

In 2011, we made our first foray into the healthcare market with considerable IR&D investment and work done under a joint development and licensing agreement with InTouch Health.

In 2012 in conjunction with InTouch, we introduced the RP-VITA, our human interface autonomous navigation robot. We recently received FDA approval for RP-VITA, the first self-navigating communications robot for use in hospitals.

FDA approval of a robot that can safely and independently move through a fast-paced, chaotic and demanding hospital environment is a significant milestone for the robotics and healthcare industries.

There are very few environments as difficult to maneuver as that of a busy ICU or emergency department. Having crossed this technology threshold, the potential for self-navigating robots in other markets and for new applications is virtually limitless.

We began shipping the RP-VITA to InTouch in Q1 of 2013. They will integrate their proprietary technology for telemedicine to facilitate its use in remote diagnosis and treatment.

We are very excited about our progress in this segment and expect the product to contribute materially to revenue in the next couple of years. Beyond the healthcare market we are exploring other opportunities for our telepresence platform.

As we discussed throughout 2012, troop withdrawals, a continuing resolution, program cancellations and ongoing budget reductions negatively impacted our Defense & Security business. We continue to believe the longer term prospects for our unmanned ground vehicles are positive. Near term however, we have limited visibility.

We recently received a $7 million order from a foreign government for PackBot systems. The order is an encouraging indication that the investments we have made over the years to develop an international market opportunity are bearing fruit. In fact, we expect international sales to contribute roughly one-third of 2013 product revenue in our Defense & Security business unit.

The balance of 2013 revenue will come from product lifecycle revenue to support our installed base of more than 5,000 unmanned ground vehicles plus orders for FirstLook. The continued development of SUGV and subsequent production timing is uncertain, so we are not assuming any BCTM SUGV production shipments in the 2013 expectations. As we discussed last quarter, we right-sized staffing to a level that would enable us to generate a positive gross margin, break-even contribution margin for business unit.

In summary, while 2012 was a transformational year, during which our home business grew dramatically and our defense business struggled, 2013 will be a return to growth year.

Home Robot revenue will contribute to growth both domestically and overseas and comprise roughly 90% of total company revenue. We will continue to invest in marketing programs and product quality initiatives that drive profitable Home Robot growth.

We will explore healthcare and other opportunities in the telepresence market and we will continue to track developments in Washington impact our Defense & Security business to ensure that our cost structure remains consistent with revenue expectations.

I will now turn the call over to John to review our fourth quarter and full year results in more detail.

John Leahy

Thanks Colin. Our fourth quarter revenue of $101 million was in line with our expectations, while earnings per share, EBITDA and operating cash flow all exceeded our expectations.

Home Robot revenue of $83 million was up 11% for the quarter driven by strong domestic growth, further evidence that our advertising investments and channel strategies are yielding positive results.

Loss per share for the quarter was $0.21 and earnings per share for the year were $0.61. As we discussed on our October call, Q4 EPS includes a negative impact of $0.22 from restructuring our D&S business and the inclusion of Evolution Robotics, which we acquired on October 1st. Full year EBITDA of $52 million was negatively impacted by about $5 million due to ER.

Domestic Home Robot revenue growth of 32% in Q4 helped drive year-over-year growth of more than 40% for the domestic business, while international revenue grew 22% for the full year.

Home Robot gross margins improved 400 basis points in the quarter and for the full year, primarily due to benefits resulting from improved product quality and product mix. The Q4 performance of the acquired ER business was in line with our expectations.

Defense & Security revenue of $18 million decreased from a year ago due to both lower contract and product revenue. D&S product revenue was $15 million in the fourth quarter most of which was product lifecycle revenue. Current backlog of $18 million includes the $7 million international order which Colin mentioned earlier. For the total company, gross margin was 41% for both the quarter and the year.

Q4 operating expenses were 50% of revenue, compared with 31% in Q4 last year. The quarterly increase was largely due to the inclusion of Evolution Robotics expenses and costs associated with the D&S restructuring.

Q4 operating cash flow was $27 million. For the full year, operating cash flow was $38 million or 9% of revenue.

Now I’d like to provide you with additional detail and some of the underlying assumptions for our 2013 financial expectations.

The outlook for our Home Robot business remains very strong with growth drivers identified for the next couple of years. For the government business, our visibility is again limited in 2013.

U.S. budget pressures coupled with a continuing resolution and sequestration increase the uncertainty. As we said on our third quarter call, we expect 2013 D&S revenue to decline from 2012 levels.

We have raised the low end of the preliminary full year revenue expectations we provided last quarter. We expect full year revenue of $480 million to $490 million comprised of Home Robot revenue of $430 million to $435 million and D&S revenue of $45 million to $55 million.

We anticipate a nominal revenue contribution from our remote presence business unit. We expect Q1 revenue of $98 million to $102 million which is up slightly year-over-year.

In Home Robots, growth will be driven by further penetration of long-term -- of time overseas markets, coupled with expansion into new geographies and wider distribution of the Roomba 600 and 700, and the Mint products. Overall, we expect Home Robots to grow roughly 20% in 2013.

We expect approximately half of D&S product unit revenue to come from PackBot sales and PLR to support the installed base of PackBot robots and the balance from FirstLook and SUGV. Contract revenue is expected to total approximately 25% to 30% of product revenue.

Our expectations for the ER business are consistent with what we communicated in October, with 2013 revenue of $22 million to $24 million, loss per share of $0.22 to $0.26 beyond. Roughly $0.12 of the loss is non-cash.

We expect Q1 EPS of zero to $0.07 and full year of $0.57 to $0.72. EBITDA in Q1 is expected to be $4 million to $6 million and full year $46 million to $52 million. Our EPS and EBITDA comparables are impacted by the positive product returns accrual adjustments in Q2 and Q3 of 2012, as well as the dilutive impact in -- of ER in 2013.

Investments in IR&D for our home and remote presence businesses, increased marketing spend in home and ER expenses will cause operating expense to increase to approximately 38% of revenue for the full year.

As we complete the integration of ER in the fourth quarter and it becomes accretive, we will return to more normal OpEx levels exiting the year. Operating cash flow will be $20 million to $25 million, largely driven by net income.

We are also assuming stock comp expense of roughly $13 million, depreciation and amortization expense of approximately $15 million and our diluted share count will be roughly 29 million shares.

We are estimating a tax rate of 8% to 10% for 2013. We have assumed in our rate the investment tax credit for R&D which was approved by Congress for 2012 and 2013. This is a benefit to EPS of about $0.14 in 2013.

Now, I’ll turn the call back to Colin.

Colin Angle

Thank you. We expect our Home Robot business to deliver robust results in 2013, while further declines in our defense business will dampen overall growth this year. However, with our Home Robot business comprising roughly 90% of our revenue, we have improved visibility, greater financial predictability, improved profitability profile and an opportunity to more strategically invest in our business.

We continue to believe that longer term there is a larger role for our government robots in the military’s modernization plan. In the near-term, however, we have made decisions that benefit the whole company and confirm our commitment to profitable growth.

2012 was a tough year during which we made difficult decisions but as a result we are better positioned to return to the profitable growth trajectory we were on through 2011.

With that, we will take your questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) And the first question is from Josephine Millward from Benchmark Company. Please go ahead.

Josephine Millward - Benchmark Company

Good morning.

Colin Angle

Good morning.

Josephine Millward - Benchmark Company

Hi, Colin. Can you talk about what happened in Europe and Asia for Home Robots in Q4? It looks like international Home Robots sales were only up about 2%, quite a slowdown relative to what we have seen throughout the year?

Colin Angle

Sure. I’m happy too, because it’s a demand a little bit of explanation. I think that the [cluster] of the answer has to do with looking back to what we’ve talk about on our last call. If you remember Q3 had higher than expected revenue in home and my answer to why that happened was because there was a tremendous amount of product that shipped between the Q3 right on the Q3, Q4 border.

And when we model the year, it’s very difficult to say which quarter is going to fall. And so what I would tell you is the first part of my answer to your very important question is that, in many of those shipments happened in Q3 instead of Q4.

We, on a full year basis exactly what we predicted would happen did in fact happen and we landed the year with the revenue right in line with expectations. So that was the first impact. Q4 suffered a little bit because of timing, Q3 prospered a bit because of timing.

Second part of my answer is we experienced record sell-through in Q4. So from a demand perspective, we feel like the momentum that we have been seeing all year globally for our products is very, very well in hand and continuing.

The -- remember we account on sell-in which makes us vulnerable to these Q3, Q4 when do we ship accounting challenges. The true measure of demand for our product is sell-through and we broke records in Europe and Japan in Q4, and so very happy about that.

So the third part of my answer is product transition related. We are moving the Roomba 600 into distribution international more broadly and that had an impact on shipment. And so you net all of these effects out what we thought was going to happen as far as overall company revenue did in fact happen.

Some of the optics looked challenging because of the timing between Q3 and Q4. We are set up to have a good Q1 where we see some nice growth and we expect to see the quarter-on-quarter growth in 2013 build sequentially as some of the growth drivers for 2013 kick in, such as the introduction of Mint into broader distribution in international markets, the impact of the growing China and Latin America markets, and organic growth on top of that. So a little bit of…

Josephine Millward - Benchmark Company

Right.

Colin Angle

… optics challenges in Q4 based on the sell-in accounting but very, very strong fundamentals in the business.

Josephine Millward - Benchmark Company

Can you tell what Evolution Robotics contribution was in Q4 and also a follow up, you’re -- the integration of Mint into your channels are sooner than expected, is the reason why you are now being more aggressive with your Home Robot guidance in the coming year?

John Leahy

Josephine in terms of Q4 for ER was -- came in pretty close to our expectations. Revenue was about $4 million for the Mint products. EPS was about minus $0.15, which is a little better than what we had guided. We had guided $0.18 to $0.22.

Josephine Millward - Benchmark Company

Right.

John Leahy

That was because gross margins were slightly better than anticipated and EBITDA was a loss of about $4.5 million to $5 million versus the guidance we gave of $5 million to $6 million.

So, overall, pretty close, a little bit better than what we had guided and so we are happy with how we’ve come out. And in terms of the expansion into international, I’ll pass that over to Colin.

Colin Angle

So, you are right, that we are excited why our ability to pull that expansion forward. I think that been with us for a number of years as you have, you will also understand that we like to see the results or we start predicting the results. And so, well, we think that this is positive news, we are adopting a little bit of a wait and see philosophy with respect to committing performance to the street.

So I think that you can view pulling forward as a positive but we have not substantially build in a prediction of great and rapid financial contribution based on that pulling forward at this time. We are going to see how it performs and we’ll be ready to supply the demand but we are not aggressively counting on any particular contribution at this time.

Josephine Millward - Benchmark Company

That’s very helpful. Thank you.

Colin Angle

Yeah.

Operator

Thank you. And the next question is from Jim Ricchiuti from Needham & Company. Please go ahead.

Jim Ricchiuti - Needham & Company

Thank you. Good morning.

Colin Angle

Good morning.

Jim Ricchiuti - Needham & Company

Follow up question just on the international business, so as we think about 2013 Colin, if we separate China, Latin America for a minute. It looks like you are anticipating growth in -- of around 15% international and it seems like just based on what you’re saying in terms of sell-through, you are seeing -- still seeing pretty positive signs in both EMEA and Japan and other parts of Asia, is that fair to say?

Colin Angle

That’s absolutely fair. I mean, I tried to articulate it on the call that says when I was talking about we are exiting the year with very, very strong sell-through. We are trying to be respectful of what our very negative macro impacts though they have not reflected in the sell-through data we are getting back in EMEA, and so that -- we think it’s prudent to use that sort of net 15% growth internationally in our building of our budgets and setting of our overall guidance.

We think that 20% growth overall for the Home Robot business is an exciting number, we are glad to be able to say that and if the negative macros in Europe continue to have a limited impact on our growth will and that obviously will be good and happy news for us, and that would lead to more aggressive growth than its contemplated in the guidance we gave today.

Jim Ricchiuti - Needham & Company

And with respect to China and Latin America, Latin America if you could just remind me, were you in Latin America for much of 2012?

Colin Angle

We have been in Latin America, it’s been a challenging market for us and we have not gotten the traction in 2012 that we had expected going into 2012, and so it was a very small amount of revenue contribution.

We continue to believe in the market and identify the issues work with our distribution strategy in Brazil and believe that it will be able to grow in 2013, although I expect the contribution to growth to be much stronger from China than Brazil. So, I think if you look at our international -- our new market growth strategy internationally, China will contribute more than Brazil will, although I think that 2013 is the year we finally get some traction in Brazil and it will be a good adder.

Jim Ricchiuti - Needham & Company

And is, China, more of a second half or do you see that contributing over the course of the year?

Colin Angle

China is contributing significantly in Q1 already. So, I think that’s not a wait-and-see. That’s starting to provide real intangible benefit to iRobot in Q1.

Jim Ricchiuti - Needham & Company

Thanks. I’ll jump back in the queue.

Colin Angle

Okay.

Operator

Thank you. And the next question is from Adam Fleck from Morningstar. Please go ahead.

Adam Fleck - Morningstar

Hi. Good morning.

Colin Angle

Good morning.

Adam Fleck - Morningstar

Question on the RP-VITA, you outlined a nominal revenue contribution this year but what the profitability profile for the product look like? Is it similar to your current gross margins in Home Robot?

Colin Angle

Into the developing market, so the first products that we are shipping where we are providing the robot base to InTouch who is delivering to market. That has a gross margin, which is slightly below our current business. But as that business scales, we see opportunities to bring that in line with our other product margins, so it’s going to be a growing revenue and growing margin story as it scales.

Adam Fleck - Morningstar

Okay. Great. And then just, John, I appreciate your comments on aligning the 38% of sales for OpEx this year. But just digging into that a little bit, are you planning to continue similar size marketing and advertising program this year or will that come down?

John Leahy

As of now and in our plans, Adam, we will have the sort of marketing and advertising spend on the home business that we had in 2012. We feel that it was very successful and obviously in helping increase our brand awareness, but also just in terms of product sell through.

And that advertising certainly contributed to the tremendous growth that we had domestically, which was over 40% for the year. So certainly we have the ability to use the advertising as a lever to increase it or decrease it during the year, depending upon how the business is going and how we think sales responding to the advertising. But as of now for ‘13, we do expect to continue this sort of advertising that we’ve been doing now for I guess about a year and a half.

Colin Angle

Adam, again, we attribute the 40% growth in domestic in 2012 to the success of that advertising campaign. So that we do view it as an investment that does pay substantial dividends and without the negative impact in ‘12 of the decline in defense business, it would be very, very clear their number is just how profitable those investments turned out to be.

Adam Fleck - Morningstar

Got it. That’s helpful. Thanks a lot. That’s it for me.

Colin Angle

You bet.

Operator

Thank you. And the next question is from Paul Coster from J.P. Morgan. Please go ahead.

Paul Coster - J.P. Morgan

Yeah. Thanks for taking my question. Colin, so just taking that up a little bit I mean obviously the domestic growth this year is a lot less. So, I think in outlets because you don’t get to the benefit of the 600 and 700 series coming out fresh to the domestic market. But in view of the fact that you seems to able to drive growth through marketing investments, why not do the same again this year in the U.S.?

Colin Angle

I think that predicting, we wouldn’t have predicted 40% growth in domestic markets and didn’t in 2012, nor do we think it’s prudent to predict such a stellar performance in 2013. This is the beginning of the year. There’s uncertainty in the macro environments. We feel like a 20% growth for the Home Robots is a great number that we can be proud of.

And again, we will take a little bit of a wait-and-see and I think that, hopefully, we will have a similar impact for our marketing programs in 2013 than we saw in 2012. But certainly predicting a 20% improvement with current macros, we feel like is prudent at this time.

Paul Coster - J.P. Morgan

Have those 600 and 700 series Roombas being shipping through the international channels today, or is that part of the growth driver here?

Colin Angle

The 600 and 700 robots have being shipping through international channels, and so that the international channel at this point have a mature inventory of both products.

Paul Coster - J.P. Morgan

The RP-VITA is nominal contributor this year. Is the same true for the new Verro and Looj products?

Colin Angle

That is how we have modeled them, yeah.

Paul Coster - J.P. Morgan

Okay. And then finally, it sounds like you had a little bit of an issue in Latin America previously, but now you are confident that the third of the growth this year is going to come from Latin America and China. Can you just sort of give us a little bit more sense of where this confidence comes from? Is it market research? Is it something in the distribution channel that’s changed in Latin America, and what in China kind of gives you the confidence?

Colin Angle

Sure. I would say that the growth -- again is not evenly divided between Latin America and China. I think most of it is coming from China where we have an active and successful distribution system that is very effectively selling through products and in first quarter of 2013 has demonstrated some real intangible momentum. So the confidence in China, which is the geographic location on which most of that statement rests, has demonstrated momentum actually selling through product.

In Brazil, we are selling through product as well. But it is less material though still will contribute to that one third figure. We were selling in Brazil with the super premium distribution strategy based on the fact that we have very, very aggressive protective tariffs which we still must pay on the product and so. Brazil was still a one phase of expansion away from meeting its full mass distribution.

So we are hoping to have our distributor demonstrating very good results based on what is an expensive product. And then as that feels better, we will be working on the strategy to do and ensure that the robot has sufficient local content to satisfy the restrictions and avoid the payment of these definitive Tariffs.

So, maybe that’s more detail than you were looking for, but we did build our model and make the statements around that one third of growth coming from China and Latin America based on what we believe to be very realistic expectations based on actual performance.

Paul Coster - J.P. Morgan

Thank you.

Colin Angle

Yeah.

Operator

Thank you. And the next question is from Brian Ruttenbur from CRT Capital. Please go ahead.

Brian Ruttenbur - CRT Capital

Yeah. Thank you very much. I have a couple of questions. First of all, the Home Robot revenue breakdown -- it seems like you have core revenue. You have Evolution and then are you throwing the RP-VITA revenue in the Home Robot or is there going to be a separate line item in 2013 for this?

John Leahy

It is at this time, nominal and so that it’s -- we did not included in the Home Robot business. As it becomes more material, we will be -- it will get its own line item and visibility in our reporting and guidance. So --

Brian Ruttenbur - CRT Capital

So under the two line items that you have right now, Home Robot and defense, is it then going to fall on your defense?

Colin Angle

I mean, their range is right now, so that you can -- so that we incorporated it under the Home Robot side but it is not a meaningful figure. As soon as it is meaningful, we will give -- we’ll break it out.

Brian Ruttenbur - CRT Capital

Okay.

Colin Angle

But you shouldn’t calculate it as having any material impact and imputed growth for home or defense.

Brian Ruttenbur - CRT Capital

Okay. So let me just break this down so that I understand it. Your core Home Robot ex-Evolution should be about $410 million, $415 million and then Evolution around the $22 million, RP-VITA maybe a couple million and that should get you to the $430 million to $435 million number, is that a correct summary?

Colin Angle

That is correct.

Brian Ruttenbur - CRT Capital

Okay. Great. And in the tax rate, I want to make sure I understood you said 8% to 10%, is that correct?

John Leahy

Yeah. Brian, 8% to 10% and that’s heavily impacted positively by both 2012 and 2013 investment tax credit. And those two years worth of tax credit is worth about $0.14 of EPS, that’s what results from that lower tax rate.

Brian Ruttenbur - CRT Capital

Okay. As we model further out, let’s say to ‘14 and other things like that, at least on a tax rate basis and we get past Evolution and then the benefits that you’re probably getting from now, the tax rates, what kind of tax rate should we be using going forward, 30% of that?

John Leahy

I would suggest you are using the low 30s, the rate was 32% for 2012. So not knowing what will happen with the ITC after 2013. I would say just modeling the low 30s. And then in fact, tax comes through that could be a couple of points lower.

Brian Ruttenbur - CRT Capital

And then I just want to summarize the gross margin on the Home Robot core is going to be what and Evolution is going to be what and then the RP-VITA gross margin was going to be what. I’m just trying to get a blend in there?

John Leahy

Well for home, the gross margins in the last two years now run in the high 40s. The gross margin this year was held a bit by those positive adjustments to the return accrual. And so it’s safe to say that, again next year, we’ll be, we’d expect to be in the high 40s for the core Home Robot business.

In terms of ER, as we’ve mentioned before, when we inherited the business, the gross margins were something around 30% and gross margin expansion is one of the key levers that we think in improving the economics. And so down the road, we hope to have the gross margins of ER at 40% or higher but 40% seems to be reasonable. But we will not -- we will not get there this year.

Most of the COGS improvements, as we work them through with vendors and our CMs will come towards the end of the year and we probably won’t realize much of the benefit this year. So safe to say that the gross margins for most of 2013 for ER will be around to where we -- what we inherited when we bought the business. So low 30s and then the remote presence, it’s too early to even judge. So you should just model that, I would say basically expecting no margin because the revenue is really not that meaningful now.

Brian Ruttenbur - CRT Capital

Okay. Thank you very much.

John Leahy

Okay.

Operator

Thank you. And the next question is from Brian Gesuale from Raymond James. Please go ahead.

Brian Gesuale - Raymond James

Yeah. Good morning. John, wondered, if you could help me reconcile a few comments here. For Q1, you guys guided a midpoint of $100 million in revenue and which your current home and government mix that would imply Home Robot at about $90 million, which is 11% year-over-year growth.

If you kind of back out Evolutions contribution and then Colin’s comment that China is going to be material contributor. And then you reconcile that with inventory being healthy internationally, why does the organic growth ex-China look so soft in the first quarter. What am I missing?

John Leahy

Well, that’s mouthful that you’ve just thrown out, Brian. I would say about the top, so the growth for total home in Q1 would be about 11%. Organically, it would be around 7% maybe 8% with ER making up the balance. And in terms of international, as Colin said there were a lot of moving parts end of the year, we think the spillover from strong self grew in Q4 should help in Q1.

But this is the way, we’ve built the plan and it’s our best view of things right now. And as Colin said we do think with expansion and some new products coming in those international markets like China starting to all gain momentum. We think that we’ll have sequential quarter-to-quarter growth throughout the year.

Brian Gesuale - Raymond James

Great. That’s very helpful. Could you maybe give us some thoughts on capital deployment, buyback, tuck-ins and things like that. Balance sheet is quite strong?

John Leahy

Yeah. So we ended the year in a very strong cash position, almost $140 million. And that is after $75 million outlay for ER. So we handled that quite well from balance sheet standpoint. We think our capital spend next year will probably be in the range of $8 million to $10 million, which is a little higher than this year. But that’s driven by the expectation that will probably be whooping some of the mint production to additional CMs although that’s not totally baked at this point.

And I think the big question, important point within your question is the subject of repurchases which we’ve talked about through this year with you and the other analysts. We continue to evaluate that and talk with the board about repurchases. Obviously up to this point, we have purposefully not put a plan in place but we’re continuing to monitor that.

And I think that, now that we’ve rebuilt the cash position after the acquisition, it will probably give us a little more comfort in terms of starting to more aggressively evaluate something like repurchases.

Colin Angle

And relative to M&A and tuck-ins, I think history has shown that we do -- we’re very, very selective and picky. It is not environment right with what I would call high-quality acquisition opportunities. But it is something that we continue to look at and we are very excited and very pleased with the Evolution Robotics deal on multiple fronts.

And so that that if we find something where we can see a convergence of expectations around valuation by both sides and we will value long-term to iRobot, we would go forth so that we are actively evaluating the marketplace. But it is something that we have to really fall in love with something justifiable which we would think would have long-term impact for us to take action.

Brian Gesuale - Raymond James

Great. That’s very helpful. Thanks for taking my questions.

Colin Angle

You bet.

Operator

Thank you. And the next question is a follow-up question from Jim Ricchiuti from Needham & Company. Please go ahead.

Jim Ricchiuti - Needham & Company

The growth that you’re expecting in the D&S business in the international market is that -- the confidence in that is that largely coming from this quarter that you recently received. And I wondered if you could elaborate on that order and was that already previously baked into your guidance for the D&S business for 2013?

Colin Angle

When we gave guidance, the deal was not complete. The way we build our AOP on D&S is by looking at all of the opportunities that we see out there, risk adjusting them and from a handicap basket of opportunity perspective developing our number. If you think about our confidence in the guidance that we gave for D&S for 2013, it’s very high. We have on a percentage basis certainly the strongest coverage of our backlog we’ve -- for AOP going into the year that we’ve had in years.

And this announcement of the $7.5 million order well for various contractual reasons, we can only say it’s a government customer, is a huge risk reduction in the international part of that one third that I discussed. So we feel really good about the defense number that we’ve given this year.

We think we have de-risked it as I mentioned the BCTM is not in the number. And because we just don’t have the visibility and have no desire to be coming and talking to you guys about how we were surprised once again. So we build a plan that we have confidence that we can make and we’ve taken a material action to improve our sales force globally. And we have good confidence in the number.

Jim Ricchiuti - Needham & Company

Okay. That’s helpful. Thanks for that additional color. And just one final question for me is with respect to the Telepresence platform. You talked a little bit about exploring other opportunities. Are these opportunities, things you might communicate at some point this year or is this still further out?

Colin Angle

You should expect more detail on these opportunities as we have more confidence as to when we’ll be launching those -- the first products using those -- addressing those markets. So into this year, I think, we wanted to spend our time on the call highlighting the launch of the RP-VITA because we are shipping that robot.

We have albeit small but we have our first actual revenue in Q1 and wanted to highlight that we are no longer just talking about the potential of remote presence. We’re actually shipping product against remote presence. We will be following a similar strategy as we provide more detail on the other markets we’re actively developing.

So thank you. That concludes our fourth quarter and full-year 2012 earnings call. We appreciate your support and we look forward to talking with you again in April to discuss our Q1 results.

Operator

That concludes the call. Participants may now disconnect.

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