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Echelon Corp. (NASDAQ:ELON)

Q1 2009 Earnings Call

May 6, 2009 5:00 am ET

Executives

Annie Leschin - IR

Ken Oshman - Chairman and CEO

Chris Stanfield - EVP and CFO

Analysts

Dale Pfau - Cantor Fitzgerald

Bill Gibson - Nollenberger Capital

Min Xu - Piper Jaffray

Darren Conti - Wachovia

Justin Cable - Global Hunter Securities

Carter Shoop - Deutsche Bank

Joe Maxa - Dougherty & Company

Operator

Good day, ladies and gentlemen, and welcome to the Echelon Corporation's first quarter 2009 earnings call.

I would now like to turn the call over to Annie Leschin, Investor Relations. You may proceed.

Annie Leschin

Hello, everyone and thank you for joining us this afternoon for our first quarter 2009 earnings conference call. With me on today's call are Ken Oshman, Chairman and Chief Executive Officer, and Chris Stanfield, Executive Vice President and CFO, who will both present prepared remarks.

By now you should have received a copy of the press release that we issued early this morning. If you would like a copy please visit or website at www.echelon.com. Before we begin, I would like to let everyone know that Echelon will be participating in the JMP Securities Research Conference on May 19th in San Francisco, the RBC Global Energy and Power Conference on June 2nd in New York and, the Deutsche Bank Alternative Energy and Clean Tech Conference on June 10th in Washington D.C. As additional events are scheduled in the quarter, we will make additional announcements.

I would like to remind everyone that during the course of this call, we may make statements relating to our business outlook, future financial and operating results, accounting matters and overall future prospects. These forward-looking statements are based on certain assumptions and are subject to a number of risks and uncertainties. We encourage you to read the risks described in our press release, as well as in our SEC reports including our 2008 report on Form 10-K for a more complete disclosure of the risks and uncertainties related to our business.

The financial information presented in this call reflects estimates based on information that is available to us at this time. Actual results could differ materially. Echelon undertakes no obligation to update or revise these forward-looking statements. Guidance will not be updated after today's call until our next scheduled quarterly financial release.

I'd now like to turn the call over to Ken Oshman.

Ken Oshman

Good afternoon. Thank you for joining us and for your interest and your investment in Echelon. With the ongoing slowdown and uncertain economic climate, it's challenging to look at the first quarter as a good one. Nevertheless, Echelon performed well in the phase of this difficult market.

Total revenue was $18.2 million, and at 43%, gross margins were above our expectations due to favorable product mix. Operating expenses also came in better than our target as we took steps to manage our costs and control expenses.

As a result, our net loss on a GAAP basis was $10.6 million, or $0.26 a share, beating our forecast. Our cash position remained strong at $87.7 million in cash and marketable securities with no borrowings.

In our LonWorks Infrastructure product line, we saw various levels of slowdown. From roughly 15% in the building automation and controls market to well over 50% in non-NES electricity meter manufacturing to a nearly complete stop in semiconductor manufacturing equipment.

It seems clear, customers are not only experiencing business slowdowns but also continuing to conserve cash and lower inventories.

While revenue this quarter declined in the LonWorks product line, overall, there were some bright spots. In March, we made a very important announcement for Echelon and the LonWorks industry. With the introduction of LonWorks 2.0, which is comprised of a new set of products including the FT 5000 Smart Transceiver, the Neuron 5000 Processor and associated tools.

These products provide lower cost, enhanced performance and improved ease-of-use. They are fully interoperable with the millions of existing LonWorks devices and they expand the market opportunity for LonWorks. We are receiving very good feedback from existing customers and new prospects. We expect to begin shipping sample chips later this quarter.

Another bright spot was demand response, as our revenue from this market grew more than expected. This continues to be an exciting area driven the increased national focus on the smart grid and alternative energy. Demand response applications remove consumption from the grid in times of peak usage.

Street lighting is another emerging area where we have a great deal of excitement, focus and attention. We've taken part in several demonstrations in North America, most recently in San Francisco with PG&E, and in San Jose, where the city awarded us a 125 light pilot project.

We've seen significant increases in the number of street lighting systems being planned across the country over the past few months. As cities face increased budget deficits and look for new ways to save cost and energy.

Though the business case alone is typically enough to drive these projects, there is still the question of capital availability. We are hearing that many city lighting departments hope to receive stimulus funds to accelerate their projects.

Interesting street lighting control is probably even more advanced internationally than it is in the United States. In China, our partners are pursuing street lighting trials in four cities, which they expect to install by year end.

In Europe, partners such as Philips Lighting, with its LonWorks based Starsense system continued to respond to RFPs and deploy pilot projects. To give you some sense of the size of this market, with roughly 200 million street lights worldwide and revenue to Echelon on the order of $10 a pole, this market opportunity is around $2 billion.

As we discussed last quarter, the advanced metering market has not been immune to the effects of the recession. Certain projects, including a few that our partners have won in Eastern Europe are not proceeding because they've been unable to obtain financing.

Further, we've seen a slowdown in utilities because of constrained capital budgets and priority changes in new projects.

Finally, while the stimulus package in the U.S. may ultimately have a very positive effect, it appears to be hindering short-term decision making at utilities as they await more information and guidelines.

Elsewhere, the projects we have underway continue to progress, albeit at varying speeds. Our sense from utilities worldwide is based on the current unusual economic environment. They are moving ahead, but moving ahead conservatively.

Of course, we are pursuing a number of good prospects in, both the European and North American markets. Our project with Duke continues to proceed very well. There are no official deployment awards or schedule has yet been announced for the next phase, and Duke is still not through their regulatory process.

We are also seeing keen interest from a number of different partners and other U.S. utilities, which is very encouraging having only entered this market about two years ago with our first U.S. leader.

The U.S. market itself is really still an extremely young market with very few smart grid installations yet deployed and operating. Those that have been deployed thus far have very limited functionality achieving little more than traditional meter reading. This is not unlike what we've seen with the evolution of the advance metering market overseas.

Until trials and deployments become more mature, it will take time before utilities fully understand what the smart grid is capable of and the ability of the NES system to meet their expectations today and in the future.

European activity also continued during the quarter with one key win in April of our first deployment in Switzerland. There was small project. This represents the first full scale AMI deployment award by any utility in Switzerland. We view it as a strategic win and early entry into a market of about 3.5 million meters in total.

As with our projects announced in Denmark and Germany, our win in Switzerland was driven not by regulation, but by a strong business case. We believe that the NES system is unique and that it offers more than a simple AMI system, which generally focuses on meters and their traditional role of collecting revenue for utility.

NES meters not only have multi-function advanced billing capability, but they are also a cornerstone of the smart grid. In building a smart grid, a key ingredient is having intelligent devices at the endpoints that can provide detailed knowledge about what's happening both at the customer and the utility.

With our advanced functionality, we view the NES system as a system that is best positioned to meet the needs of utilities both today for AMI and in the future for the smart grid.

Now, I'd like to spend a few moments discussing our recently announced partnership with T-Mobile. We believe this is enormously important to this market and should aid the adoption of the smart grid in North America. This could change the entire value proposition of smart metering and the concerns around communication costs.

Outside of North America, most advanced meter deployments use standard public networks for their communication backhaul, because they found them the most reliable and cost-effective.

In contrast, most competitive advanced metering systems in North America require utilities to deploy their own proprietary wireless communication infrastructure and pay the associated costs of building and maintaining that network. This is an addition to the use of the public or other private network for backhaul.

The smart grid is all about communications. We are confident that using the enormous investment of open public wireless communication network carriers will too prove to be the wisest and least expensive long-term solution for the communication infrastructure.

The ability of the NES system to use the utilities existing low voltage power line wiring for the Last Mile communication combined with a standard wireless backhaul infrastructure from the carriers, such as T-Mobile, enables utilities to deploy an AMI system without having to build or maintain a new dedicated communications infrastructure.

We have also fund an added benefit for utilities as well, because we are able to closely monitor the health and behavior of power lines. We can actually lower the maintenance cost of the power line network itself by quickly indicting when the signal is weakened or failing.

Now I would like to turn to the U.S. stimulus package and how we see it potentially impacting Echelon.

There are number of ways in which we could benefit, approximately $3.2 billion of the stimulus package will find its way directly to states and large cities in the form of energy-efficient conservation block grants.

The more of these funds are directed toward making building smarter or installing intelligent street lighting systems, the greater the potential opportunity for Echelon and its customers. There is also $4.5 billion in matching grants from the Department of Energy targeted at the smart grid.

Under the preliminary guidelines recently released, the large number of projects that qualify for funds, including those in which smart grid devices, smart devices work to intelligently reduce energy consumption. We believe these have very direct applicability for Echelon and our LonWorks customers as well as for our utilities and utility customers.

The stimulus package also includes $3 billion to the Department of Defense for sustaining, restoring, and modernizing of army, air force and DoD health facilities. Another $1.2 billion was allocated for HUD and more money will go to the Department of Education for modernization, renovation or repair of public schools.

With LonWorks currently deployed in some of the larger public schools, such as New York and Chicago through our integrators and the U.S. Army Corps of Engineers using LonWorks as a building standard, we believe through our partners, Echelon is well-positioned to participate in these areas as well.

It is extremely difficult to translate all of this into specific revenue opportunity. With so much of the stimulus package having some energy component, Echelon should benefit directly or indirectly from at least some of these dollars. We've taken several steps to increase our visibility during this process, including designating a government affairs person to keep us abreast of local and national actions that may impact Echelon.

We also joined the Demand Response/Smart Grid Coalition this quarter, which interacts with Washington] to get demand response initiatives funded and moving forward.

Now let me turn to the outlook.

The uncertainty phase in the global economic environment continues. While we hope that the efforts of Congress and the Obama administration in concert with foreign governments will begin to stabilize the economy in the near-term.

Visibility is far too limited at present to make any inform predictions about the remainder of the year. We do, however, find ourselves in the unique position of being at the forefront of an emerging group of important markets poised to benefit from a number of incremental market forces.

In this exceptionally difficult economic environment, we are very focused on the need to manage costs near term and drive toward profitability balanced with the need to invest in development and marketing to position the company for growth as more robust demand returns.

To that end, we are closely monitoring costs and are taking reductions as needed. Most recently, we instituted a top-down structured salary reduction for most of our employees, effective May 1st. This was not any easy decision for us to make as we know it impacts our most important asset, our employees.

Given the commitment, we all have to building our company though, [Author ID2: at Wed May 6 18:04:00 2009

]it should not come as a surprise that our employees reacted very positively to our announcement. We all recognized the opportunity that lies ahead for Echelon, despite the current uncertain times.

In summary, while we wish we had better visibility into the near term, we remain optimistic about our longer term prospects and we see a number of positive indicators in government initiatives that we believe will drive our markets and grow revenues.

I would like to thank the entire Echelon team around the world for their dedication, creativity and hard work.

I'll now I turn the call over to Chris Stanfield, our Chief Financial Officer, to elaborate on our operating results.

Chris Stanfield

Thanks, Ken. Now I will review our financial performance during the first quarter and our outlook for the second quarter. Please note that all reference to non-GAAP amounts excludes stock-based compensation.

For the ease of reference, we have prepared a complete non-GAAP statement of operations for the three-month period ending March 31, 2009 on the Investor Relation section of our website.

Revenues for the quarter were $18.2 million compared to $35.6 million in the same period in 2008. LonWorks sales were $11.2 million, down from $13.8 million in the same period last year. NES sales were $5.7 million, versus $20.5 million a year ago. Revenue from our Enel project was $1.3 million, consistent with the same period last year.

Non-GAAP gross margins for the quarter was 45.5% compared to 35.8% for the same period last year. This improvement was primarily driven by a higher amount of LonWorks sales, and to a lesser extent higher inventory level and lower than expected indirect cost.

Non-GAAP operating expenses were $15.9 million, compared to $16.7 million in the first quarter of last year. We were encouraged by the improvement in G&A in sales and marketing, driven by prudent control of discretionary expenses as well as improved foreign exchange rates. We continue to invest strategically in product development in order to position Echelon well in its key markets.

Interest and other income was $310,000 versus $659,000 in the same period last year. The GAAP net loss for the first quarter was $10.6 million, or $0.26 per share. This compares to a net loss of $6.8 million, or $0.17 per share, for the same period in 2008.

On a non-GAAP basis, the net loss for the quarter was $7.5 million, or $0.19 per share, compared to a non-GAAP net loss of $3.5 million, or $0.09 per share, for the first quarter of 2008.

Moving back to the balance sheet, we ended the first quarter with cash, cash equivalents and short-term investments of $87.7 million, a $375,000 increase from December levels. This was due in part to a decrease in our accounts receivable balances, partially offset by an increase in inventories.

Inventories grew by roughly 24% during the quarter to $20.5 million. This was due to the timing of revenues as well as to planned increases in certain finished goods inventories. We expect inventories to return to more historical levels over the next few quarters as finished goods are shipped to our customers.

Now I would like to turn to guidance.

We will continue to only provide one quarter guidance. While we entered this year expecting modest growth, we no longer had adequate visibility to predict growth for 2009.

In near-term, both our LonWorks and NES product lines have been impacted by macroeconomic conditions. While we remain cautious to growing focus on energy management, potential impact of the recent stimulus package are positive catalysts to our business longer term.

We now expect total revenue for the second quarter of 2009 to be in the range of $21 million to $23 million, with LonWorks infrastructure accounting for approximately $11 million and NES about $9.4 million and the remainder from Enel.

We anticipate non-GAAP gross margin to be in the range of 39% to 41% for the quarter and non-GAAP operating expenses to be between approximately $16 million and $16.5 million.

Finally, we estimate our GAAP loss per share will be between $0.28, $0.32 and our non-GAAP loss per share will be between $0.18 and $0.22.

Now I will turn the call back to the operator for questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions). Your first quarter comes from Dale Pfau with Cantor Fitzgerald. Please proceed.

Dale Pfau - Cantor Fitzgerald

Have you seen the order trends began to pickup a little bit?

Operator

Mr. Pfau, your line is open, you may proceed.

Ken Oshman

Hello, Dale, are you there? This is Ken.

Operator

Your next question comes from Bill Gibson from Nollenberger Capital.

Bill Gibson - Nollenberger Capital

I know on the last call, you mentioned that there were some exciting new products coming and of course, that talking about them is depended upon your customers. Are we further along the line or is there anything new you can mention there?

Ken Oshman

Bill, I'm glad you asked that question, because first of all I think there was a little confusion in my statement last time. So let me be sure that I clear that up for anyone that was confused.

I said there are lot of great products coming along. You're exactly right. What I met was a lot of great products coming along from our customers, our LonWorks infrastructure customers.

There are always are new things coming along, but they are coming along and we're very excited about some things that we expect during this year to come out and start actually creating substantial incremental revenue for us. So we're hopeful that that happens during this year. We're very excited about them.

Their need products and I wish I could tell people about what they are, but of course, I wouldn't, because they are customer's products and not our product. So I was not talking about specifically products from us, but I am also happy that we did announce our LonWorks 2.0 this last quarter.

I think that's a Cracker Jack product. It's our kind of a product that will not change revenue in the next 60 days, but is something that is destined to I think change the curve of our growth going forward. Did that answer your question? It was much more than you asked.

Bill Gibson - Nollenberger Capital

That was good, but if I could do one quick follow-up.

Ken Oshman

Sure.

Bill Gibson - Nollenberger Capital

You mentioned demand response as well picking up. Is that from multiple customers?

Ken Oshman

Yes. We have multiple customers that do demand response. It's a very exciting piece of our business right now and doing very well.

Operator

Your next question comes from Jesse Pichel from Piper Jaffray. Please proceed.

Min Xu - Piper Jaffray

This is Min Xu for Jesse Pichel from Piper Jaffray. In last quarter you mentioned the partnership utilizing your open secure port. Can you give some update? Is there any more like third-party application utilizing that port?

Ken Oshman

I think you are asking about our announcement and discussion of our MEP interface, our multi expansion port interface on our meters. They are continuing to be increasing numbers of people that are designing products to the MEP. I think it's very important. It's a very, very important differentiator for our product line and that it allows all kinds of third-party added [patient] of our products.

That is happening. There are some that are being installed as we speak, they are new products. They were other products that we know are being designed and created for us, market specific applications, where there are unique features that a particular market need. So we think it's a very important part of our product line.

Min Xu - Piper Jaffray

I know it's hard to get a visibility into 2009 and 2010, but can you give me some more color on, what would be a potential pass to profitability?

Ken Oshman

Sure, I would be happy to try and talk about that or Chris would rather or you want me to talk. Well, I'd be happy to talk about it. So, in the big picture sense. Well, first of all, the critical single most piece profitability is more revenues. So, we do need to grow revenues.

So at these revenues levels without dramatically cutting our expense levels, which we think we should not do and that we need to continue investing, as we are investing. Although we are doing everything we can to manage down expenses within the framework of trying to accomplish what we are trying to accomplish.

The path to profitability is to revenues. I think it's a pretty simple calculation, which anyone could do. I think the gross margin of our business on a non-GAAP basis, the gross margin of our business probably you could estimate between 40% and 45% or 50%.

You can take your number whatever you want it to be. That will change depending on volume. It will change depending on mix between LonWorks infrastructure and NES, but just pick 45% would not be a bad number. It wouldn't be out of the range, high or lower. From that, you can calculate where the volumes needed to breakeven.

Operator

Your next question comes from Dale Pfau from Cantor Fitzgerald. Please proceed.

Dale Pfau - Cantor Fitzgerald

Could you talk a little bit, you mentioned that you are getting some good response from some of the other utilities of the U.S. about your demand response. Clearly, there have been a number of high profile announcements by other competitors in the game for the sort of the communicator module plugging into the traditional or what people call it smart meter versus your solution.

Are people coming around to view your viewpoint? Are they willing to try yours? What do you see about the sense of the market?

Chris Stanfield

Let me say that what we have seen in the last few months is that we have seen a substantial and important increase and interest in our product line, interest in testing our products, interest in doing pilots. That's the first step. So we are seeing that, I think it's very important.

Until people actually try NES, they can't understand how rich, and full, and high quality it is, and that it really works so reliably. I think we differentiate ourselves dramatically on functionality of the system. It's just a very rich system that we've been developing over the last 10 years. I think we'll always be higher functionality than an add-on to an existing done, non-communicating meter. So, we are seeing interest in more pilots, more trials, more testing for our system, and that's all good.

Dale Pfau - Cantor Fitzgerald

As a follow-up, do you have a comment about how you think the stimulus may ultimately come down? There has been a lot of concern about the size of the pot for the stimulus money, and the fact that it looks like they are actually trying exclude the smart meters, you know, the DOE money. Do you have any comments there?

Chris Stanfield

I have beg ignorance as a politician, and say I really don't want to predict what's going to happen. Right now, it is not perfect, but there is plenty of room for modification of these very preliminary guidelines, modification in a way that could help us, modification in a way that might not help us, quite frankly. I think it is a little early to tell.

I can tell you that no matter they are, there are plenty of people going after them, and a lot of them are our customers.

Operator

Your next question comes from the Darren Conti from Wachovia. Please proceed.

Darren Conti - Wachovia

With respect to NES in Europe, you mentioned that few projects are not proceeding. Can you just clarify what those projects are and just provide a little more color around why they aren't going forward?

Ken Oshman

I think I said about all we would like to disclose about those projects. They were in Eastern Europe. They weren't in Western Europe. They were in Eastern Europe. They were done deals and then the utility just couldn't find at the last minute financing for those projects. I think that there will be another day and another opportunity, but for now, they are gone.

Darren Conti - Wachovia

So it's mainly funding issues?

Ken Oshman

Yeah. They made a decision to do it. They only went to the bank and said, we need some money, and they said I'm sorry. We don't have any money right now.

Darren Conti - Wachovia

So aside from those couple of projects, when we look at your other contracts in Europe, should we assume those are proceeding on their original schedules?

Ken Oshman

Yes. I think that almost anything that we tell you about is real and is proceeding. When we talk about backlog or we talk about contracts, we talk about bookings that are bookings to ship something. In general, those are things that are funded before we get a booking. I mean no one is going to give us a booking unless they got the money to pay for it generally. So these are all things that are going ahead and that will continue.

Having said that, I think the things that are not funded are all around the world are being looked at by every utility. I think anyone that says that's not the case is just missing the reality. I think today every utility is saying, our cost of money is up a little bit, our revenues are down a little bit, and we are going to look very carefully at all of our capital budgets and all of our priorities and how we spend money. We are looking at our dividends and we want to keep those dividends where they ought to be.

So I think this is a sort of international worldwide phenomenon. I don't think it's just in Europe or anywhere.

Darren Conti - Wachovia

If I may, just a follow-up on shifting to North America. You mentioned that there is no official deployment schedule or announcement in the next phase. Should we read into that $14 million in revenue you did last year, that's something that you don't really have any visibility on. I mean are you not currently shipping any meters to Duke until you get work from them? Could you just provide a little bit of color around that?

Ken Oshman

Right now we are not shifting meters to Duke. Duke is in the process of deploying what they called the first tranche. They are doing a great job out there. They are very happy with that. I read in their testimony to the Ohio utilities. Do you see that they are planning to go tranche by tranche and continue going, but right now we are where we are and they are where they are. They are not quite through their regulatory processes, so I think that that's also a piece of the timing.

Darren Conti - Wachovia

You had mentioned previously that you were talking to another North America utility, any progress on that front or any updates there?

Ken Oshman

Well, we have now got, either got or have plans for a number of trials. I don't think we'd want to say much about who they are, where they are. We will announce anything, if it ever becomes real, but we're sort of working with in some general sense like 10 utilities in the U.S.

Operator

Your next question comes from Justin Cable from Global Hunter Securities.

Justin Cable - Global Hunter Securities

A couple of quick financial questions and then maybe some questions around some of the projects going forward. On the financial side, some of these expense reductions are going into place May 1. What sort of the ongoing expense run rate or even a breakeven point in revenues that we'll see under the new model?

Chris Stanfield

Well, we provided a guidance for operating expenses for our second quarter and as, you know, that was very close to what they were in the first quarter. We are going to save a few million dollars because of the actions that Ken described in his prepared remarks.

As to the breakeven question, I think Ken has already discussed that, that's largely driven by revenue. First, as you very well understand many of the cost and cost of good sold are in fact fixed costs, as revenue goes up they fall, they fall as a percentage of revenue. We've talked about the fact that we need to drive revenue and get to that 45% gross margin. Then as I said in my remarks, across the board we are working very hard on managing down any of our discretionary costs.

Justin Cable - Global Hunter Securities

Okay. Should we expect any additional reduction after May 1, or is this it for now?

Chris Stanfield

In terms of the salaried plan, we've told you what we've done. So, as I said, that will be a few million dollars or for a 12 month period.

Justin Cable - Global Hunter Securities

Can you tell us what currency impact you might have had in terms of topline on the year-over-year comparison?

Chris Stanfield

Very modest in terms of the topline, since we normally sell in US dollars expect in Japan. We did have a positive currency impact down in interest and other income, simply because our inter company balances, got marked to the strong dollar.

Justin Cable - Global Hunter Securities

Some questions about some of the newer partnerships and projects. The T-Mobile partnership, what's been their reaction by the market place in response to the news about that relationship?

Ken Oshman

Actually, we've had some really positive response to that. We've had utilities that are, very excited about it, so. Let me just say, that's a little bit of surprise to me, because this is going to be a learning process and a sort of discovery process of, how good this alternative is to, what to owning proprietary mesh radio network is. So, the fact that we immediately got some responses is surprising to me. Not just because of the normal inertia of these kinds of things.

It also has been very good and helping us to track even other potential partners. We are now, a corner stone of our, go-to-market strategy is that, we go-to-market if possible, with third-parties who have experience with utilities and have particular expertise at system integration and deploying system deployments, as the prime contractor with the utility.

I would say that, we've done brilliantly with partners all over the world. It's been a slower process in North America, and that process has in the last quarter or so has really begun to accelerate. We are very pleased about that too.

Justin Cable - Global Hunter Securities

What have you seen from the competition or do you expect some of the competitors to sort of pursue the same path, in terms of partnering with a carrier like this?

Ken Oshman

I hope they do, that would be great. We haven't really seen any response. What we are really talking about. They already use a carrier of some sort often as a backhaul in their systems. Where the big difference is, is that we take out the intermediate network. This proprietary wireless mesh network that needs to be built, installed, deployed, managed, operated by the utility, and we get rid of that. Instead of having to use that, use a combination of the existing network, which is called the power grid and the other network which is the public telephone network.

So, it's a real paradigm shift. It allows the utility to do what it does well, manage its own power network. Number two, get out of the business of owning a mesh radio network, and the capital investments that's involved in doing that, and the potential obsolescence and on and on. There are lots of reasons that we think this is just a fabulous direction for utilities.

Now I have to be honest and tell you that we are the pie piper here leading the pack and we haven't got a lot people following us, because almost all of our competition in North America and only in North America, all of our competition, preaches the religion of using a proprietary mesh radio network in their system. That raises the cost. We think reduces reliability and on and on.

So we've got to tell the story very loud and very clear, so people get an opportunity to see how easy it is to manage these systems and how better a financial proposition it is for them.

Justin Cable - Global Hunter Securities

Then last question, I have is on the street lighting opportunity. What sort of the high level expectations in terms of timing of projects, and potential contribution overall to Echelon, as we kind of look at the next few years. I mean, is there something that could be pretty substantial this year or are we looking more towards two three years down the road or how quickly do you think this could evolve into something big?

Ken Oshman

It's going to be a little different in each part of the world. First of all, I think different parts of the world are attacking this in different ways. In North America, uniquely, there is an enormous focus on LED lighting, street lighting. It's sort of the thing everybody is really interested in. It's not a small step, it's a giant step. The combination of LED street lighting with controls is really a giant step and makes a whole lot of sense, having said that, streetlights made with LEDs are today pretty expensive.

So, that means that, that market is going to get going, but it's going go a little slower in North America, I am predicting than it will go in rest of the world, which is not going to be using light emitting diodes, streetlights, but are going to use conventional gas kinds of streetlights that are low power streetlights to replace the old stuff that they've got.

That's not to say LED streetlights aren't going to be a hit worldwide. They will be, and it's just a question of price and time and it will all happen. It is hot today, but it will be in terms of real volumes much more important let me say in a year or two. I don't think we will see enough street lighting revenue that it's going to knock your socks off this year. I believe street lighting is in its pilot phases, pre-deployment phases, I think we will start to see real deployments next year.

Operator

Your next question comes from Carter Shoop from Deutsche Bank. Please proceed.

Carter Shoop - Deutsche Bank

Hey, Ken. I wanted to follow-up with your comments there, when you talk about LEDs being expensive with your automated technology. Can you talk a little bit about what the ROI is for replacing existing streetlights?

Ken Oshman

Carter, I want to be sure. I correct the implication of what you said. LED streetlights are expensive it's not because of our technology. Our technology improves the ROI dramatically on any kind of light that we put in. So, let me just make sure, I didn't mislead you by saying that it was because of our technologies, because the streetlight itself the luminaire, the light is just a little expensive right now. It's a few hundred dollars versus a $150 or something like that.

So, the ROI on most of the streetlight projects that any one looks at, I've seen ROIs as low as 18 months and in fact we've got some ROIs that our partners are telling me in China, they are going to be even lower than that, which is fabulous and quiet amazing. I think, in general, the ROI is somewhere in the four, five, six years. It goes out to eight years. When it gets to eight years, it's over. So there are very few of them that are, I mean, all the ROI's are below about eight years to seven years something like that.

Now that's really good, if you can do that with an LED light. So it's going to pay for itself seven years and last for god knows how long. So, it's not a bad ROI, but the best ones are four years and better and those are the ones that are probably the first one.

Carter Shoop - Deutsche Bank

So if we say that ROI can afford to seven years, what type of ROI do we need to see to really see this market pick up? Two to three years and then maybe we'll see adoption rate accelerate?

Ken Oshman

No, no, four to eight years excites everybody. The reason this hasn't picked up is it's a new market. It's just a brand new market. We have a booth at a lighting show that's going on right now in New York, [Hard] LIGHTFAIR. It's mostly a show of lights of people that make lights, lights fixtures and so on, but where they are with controls solutions and our booth is swapped because this is a new concept in this industry.

The idea of actually doing more than just even turning on and off street light, but actually controlling them, actually it's just a new market. So like any new market, everybody is not going to go buy something on the first day. So I think that's what's happening is that cities that are care about ROI, that care about safety, that care about maintenance, that care about the performance of the street lighting are moving faster than those that are not that concerned about problem. Eventually, it's going to be a very big market.

Carter Shoop - Deutsche Bank

Can you discuss what your revenue opportunity is per street light? Is $20 still a good number to think about?

Ken Oshman

In my comments, I used $10. I don't know exactly what it's going to be. It depends on the configuration, the density of street lights per transformer or wide variety of things, but $10 is a conservative number.

Carter Shoop - Deutsche Bank

When we think about kind of the longer term goals for the company being internal goals, are there any goals in place here in regards to when the company needs to become profitable? Is there any thing like say three to five-year time window, where we relate to our line and say we need to dramatically revamp this company to get profitability if we are not there at a certain amount of time be it three or five years?

Ken Oshman

No there is not.

Carter Shoop - Deutsche Bank

Can you also discuss your outlook for M&A?

Ken Oshman

I will add to that comment. We are all tired of not being profitable. I mean we are not complacent about this idea but that is not….

Chris Stanfield

Carter, I think the point is that the discussion that you and I have had previously what Echelon is not prepared to do is to forego large market opportunities by taking short-term spending actions. They are in the best interest of our stockholders.

Carter Shoop - Deutsche Bank

Maybe three years down the road, we have seen adoption as to our meters across the board and you guys prove to be unsuccessful hypothetically here. Would we then consider possibly divesting or shutting NES or how do you think about that? Something that we just want to continue to invest money in and what point do we then say we missed…

Ken Oshman

If I even thought about that, I would be fired. I don't think about that. We are aggressively going after these markets. We are the leaders, as far as I am concerned and not as far as I am concerned. In any measure, we are the leader in the installed base of deploy smart metering infrastructure. We are not being unsuccessful in this business.

Carter Shoop - Deutsche Bank

Can you discuss your outlook for M&A and also if you ever explore the possibility of possibly that divesting line works for NES?

Ken Oshman

No, no. I won't discuss this.

Operator

Your next question comes from [Patrick Sullivan] from Credit Suisse. You may proceed.

Unidentified Analyst

If I may, just a quick question back to NES in regards to the stimulus funds and you mentioned in your remarks that utilities are slowing down right now because of the uncertainty in what the final funding opportunity might look like. Are you still seeing, them interested in pilots? Can you maybe quantify some of the smaller private activity that you are seeing?

Ken Oshman

I would say that the, interest in pilots is actually going up not down at this time. Yes, so they are very interested in pilots and their interest in those are just going up and that's all good.

Unidentified Analyst

Is there anything...

Ken Oshman

I think it's in part because of the stimulus package. Also, I mean, I think, utilities are saying let's go see what we can learn, so we can decide whether maybe there is something else we ought to be doing than we have been doing.

Unidentified Analyst

What are you doing both for your customers to help them navigate these grand opportunities with the stimulus and also to stay visible in Washington and with regulators and help encourage and making sure that the standards and final funding is favorable for the industry. Can you maybe talk about how your position?

Ken Oshman

Let me just say that the reality is that there are much stronger lobbying organizations in the world than we are. So, we are not relying on being able to lobby in a way to change things in our favor. We are very active as best we can be in helping our customers go get stimulus funds. We just sponsored a webinar for our customers.

We had an expert from a local law firm from Wilson Sonsini, and from the Department of Energy who led the webinar for us and it was a great success. I think we had 150 different companies on the webinar something in that order. So we are working this thing as best we can. We don't have a 100 lobbyists sitting around the halls of Congress. So, we're not going to be able to do that sort of thing much. The best lobbying thing we have going on our side is just moral suasion and common sense, so we work on that.

Unidentified Analyst

Sure. One last follow-up and then I'll jump off here. As far as security is concerned, can you maybe talk about how you position the technology and also what you went through when you selected the wireless network and how you feel, I mean I know that the standards are not out there that, but how you'd feel about the security of you systems?

Ken Oshman

Well, first of all, we feel very good about the security of our systems. I mean, it was one of the very first things we did from day one, over ten years ago we started working on security. Enel was of course very concerned about security. So from our very first work, we have been very involved in a very, very secure system.

Security standards, security things change overtime, so we will be changing overtime as we need to. We have to-date with millions and millions of meters installed, we are unaware of any security attack that's been successful against our system. So, the proof in the first place is in the eating, and the second is that we have a very secure system which we have had audited a number of times, and we feel very good about it.

Now, we don't use a wireless system. I think that's a very important aspect of our whole security philosophy. Of course, we use the cellular mobile networks, cellular networks as a backhaul, but the actual getting to the meters is not over a wireless network it's over the power lines.

Unidentified Analyst

Can you maybe remind us the functionality that's being used in Enel now? I know it's been a gradual process to get each feature integrated to their system, and 20 plus million points out there. What is it currently being used for today?

Ken Oshman

I actually have to tell you I've sort of lost contact with what they are actually doing today. I know as off five years ago they were doing, tamper detection on-off, turning on and offering different power levels of different rates for different maximum power levels. They had time-of-use pricing, they had load-limiting, they of course were checking power quality, they were managing their transformer loading and by phase and by transfer. I mean there are lot things they were doing. Even within the first year of operation, their system was returning 25% of their investment.

So it's a very rich system. I'm sure they are doing more and more and more. We keep supporting them in terms of software features and functions. At the level we support them, they are not at the application level and they are at the infrastructure level, which is where we operate in first place.

Operator

The last question comes from Joe Maxa from Dougherty & Company. Please proceed.

Joe Maxa - Dougherty & Company

I was wondering, Ken and Chris, if you could give us a little more color on the revenues. I know you don't want to give guidance. Do you have enough visibility to kind of give us a framework or are we looking at revenues and ASP up maybe in the second half over the first half, do you have enough visibility to comment on that?

Chris Stanfield

Joe, this is Chris. I think like a lot of companies, the position we are taking right now is that we are just going to do guidance on a quarter-by-quarter basis. Of course, we have internal processes we're managing through, but we are going to do that on a quarter-by-quarter basis.

Ken Oshman

Well, Joe.

Chris Stanfield

Hello, is the caller gone?

Operator

I'm sorry, sir, but he has dropped from the queue.

Chris Stanfield

I think we shocked him.

Ken Oshman

Thank you very much, everybody for joining our call today. We really appreciate your interest and your investment in Echelon. We'll be next quarter. Thanks very much. Bye-bye.

Operator

Ladies and gentlemen, thank you for your participation in today's call. This concludes your conference. You may now disconnect. Good day.

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Source: Echelon Corp. Q1 2009 Earnings Call Transcript
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