Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message| ()  

Executives

Annie Leschin -

Ronald A. Sege - Chairman, Chief Executive Officer, President and Member of Stock Option Committee

William R. Slakey - Chief Financial Officer

Analysts

John Quealy - Canaccord Genuity, Research Division

Patrick Jobin - Crédit Suisse AG, Research Division

Elaine Kwei - Jefferies & Company, Inc., Research Division

Shawn E. Lockman - Piper Jaffray Companies, Research Division

Joseph A. Maxa - Dougherty & Company LLC, Research Division

David Giesecke - Wedbush Securities Inc., Research Division

Dale Pfau - Cantor Fitzgerald & Co., Research Division

Benjamin Schuman - Pacific Crest Securities, Inc., Research Division

Paul Coster - JP Morgan Chase & Co, Research Division

Echelon (ELON) Q4 2011 Earnings Call February 9, 2012 5:00 PM ET

Operator

Good day, ladies and gentlemen, and welcome to the Echelon Fourth Quarter 2011 Earnings Conference Call. [Operator Instructions] At this time, I would like to turn the presentation over to your host for today's call Ms. Annie Leschin. You may proceed, ma'am.

Annie Leschin

Thank you, operator. Hello, everyone, and thank you for joining us this afternoon for Echelon's Fourth Quarter and Full Year 2011 Earnings Conference Call. With me on today's call are Ron Sege, Chairman and Chief Executive Officer; and Bill Slakey, Executive Vice President and CFO. Both of them will present prepared remarks. By now, you should have received a copy of the press release that we issued a short time ago. If you would like a copy, please visit our website at www.echelon.com.

Additionally, this quarter, we're going to refer to a set of slides that we have posted in the IR section of our website to help walk through the quarterly results and outlook for our market.

Before we begin, I'd like to let everyone know that during the quarter, Echelon will be participating in Pacific Crest Emerging Technology Conference on February 15 in San Francisco. The Jefferies CleanTech Conference on February 22 in New York, Morgan Stanley Technology Media and Telecom Conference on February 27 in San Francisco and Canaccord's Sustainability and CleanTech Conference on February 29 in Deer Valley. If additional events are scheduled, we will make other announcements.

Now I'd like to remind everyone that during the course of this call, we may make statements related to our business outlook, future financial operating results, accounting matters and overall future prospects. These are forward-looking statements based on important 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 report on Form 10-K and subsequent reports on form 10-Q 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 are available to us at this time. Actual results could differ materially. Echelon undertakes no obligation to update or revise these forward-looking statements and guidance will not be updated after today's call until our next scheduled quarterly financial release.

And now, I'd like to turn the call over to Ron Sege. Ron?

Ronald A. Sege

Good afternoon, and thank you for joining us for our fourth quarter conference call. I will be referring to the presentation starting with Slide 3. The close of 2011 marks the anniversary of my first full year with the company, and I'm pleased with our progress towards many of the goals we laid out a year ago. We delivered 41% revenue growth year-over-year, significantly outpacing the broader market, accelerated the rollout of large-scale projects in the U.S. and Europe, established an important partnership in China and reached a key milestone with our partner in Brazil.

In 2011, we reduced our non-GAAP operating loss to less than 1% of revenue from almost 15% in 2010 and achieved non-GAAP profitability in 2 of 4 quarters. Perhaps most importantly, we honed our vision and made the strategic decision to reemphasize our roots as an embedded control systems supplier. Our greatest strength lies in our long history of partnering to provide customers with our advanced technology in a number of flexible ways. This approach enables us to better serve our current markets and enter a broader array of emerging ones.

Turning to Slide 4. Today, Echelon is an energy control networking company with one proven open standard multi-application platform selling complete systems and embedded subsystems for Smart Grid, Smart City and Smart Building applications. We help our customers reduce operational costs, enhance satisfaction and safety, grow revenues and prepare for a dynamic future.

Our objective for 2012 is to continue to sharpen our focus and improve our execution. We plan to complete the implementation of our system and subsystem strategy throughout our organization, sales of our system solutions will remain an integral part of our strategy for the metering and distribution automation applications. We will increase our emphasis on sales of our subsystems to partners such as Honeywell, Siemens, ELO and Holley who utilize them in their own products so that we can better penetrate our target markets. Innovation will be more focused on our core platform and we will increasingly partner to leverage each other's core competencies.

Please turn to Slide 5. Of course, while our strategy and early results hold great promise, ongoing good operational execution, pipeline conversion and a sufficiently bland market are imperative. On a micro basis, the regulatory delays in Indiana appear no closer to resolution. In addition, macro conditions remain tentative in the smart energy market amidst the European financial crisis, and competition is heightened as the industry faces slow growth and ongoing consolidations. New tenders are fewer and farther between and pricing pressures are increasing. Against these headwinds, our disciplined sales approach has significantly broadened and deepened our pipeline and we have a firm product cost reduction plan in place. We believe we can achieve modest revenue growth for 2012 and, therefore, we remain committed to our goal of full year non-GAAP profitability.

On to Slide 6. We also learned a few things in 2011 which we will use to make further operational improvements. First, large end-user projects require Echelon to actively sell with its partners to increase the likelihood of a win. Second, working with our partners to design-in our sub-systems requires a different type of selling and technical scale than sales to end users. Third, establishing and maintaining partnerships with large prospects requires full-time focus. Finally, applications across Smart Grid, Smart City and Smart Buildings are starting to converge as utilities get into services businesses and Smart Buildings become grid-aware, metering low-voltage distribution automation, street lighting control and building automation applications become relevant across market segments.

In this context, we have made some changes to our executive organization. Michael Anderson, who previously led Utility Sales, will lead worldwide sales to end users and local partners and will be responsible for driving growth and capturing cross-sell opportunities. Michael will divide his organization into project and design-in sales. Anders Axelsson, who has previously led commercial market sales, will lead strategic partnerships, calling on large industrial and global companies to build and rekindle OEM relationships with partners such as Honeywell and Siemens. Our head of engineering, Rob Hon, will consolidate innovation activities around the common architecture to support multiple applications, and we have combined product and outbound marketing under Varun Nagaraj to more effectively guide and market our multi-application embedded platform. Russ Harris, our Head of Operations, remains fully focused on driving our plan for product cost reductions that are essential to expanding gross margins in today's competitive environment.

With that as backdrop on Slide 7 and 8, let me provide an update on our progress in the Smart Grid or utility markets. Starting with our systems offerings, 2012 we will see the majority of our revenue come from our deployments at Fortum, Finland through Telvent and at Duke Energy. At Fortum, we are particularly excited about the meter-connected in-home displays that began shipping in the fourth quarter, enabled by Echelon COS software running on our CNX 3000 meter module, these devices provide customers near-realtime usage data directly from the meter. Fortum is the first utility to introduce this innovative product which gives end-users information so they can control their energy usage and sets the stage for future applications.

Our deployment at Duke in Ohio continues to receive high praise for its outstanding performance and reliability, and we look forward to Duke moving ahead with other territories in the future. Meanwhile, our pipeline of systems opportunities is 3x what it was a year ago. This includes our Edge Control Node, which will be increasingly important for delivering applications that offer revenue protection, reliability improvements and operational savings at the edge of the distribution grid. We continue to utilize our geographic ranking system to focus on markets that are most ready for Smart Energy based on a list of categories such as electricity shortages, theft levels, consumer awareness and political will. This has positioned Echelon extremely well in 2 of the largest potential Smart Grid geographies over the next few years, Brazil and China. We are using our subsystem strategy to quickly enter and penetrate in these areas.

Brazil will be the first country where we are implementing our subsystem strategy since Enel. A 65 million-meter market Brazil is divided among 64 utilities or electric power distributors. The top 10 utilities have roughly 75% of the meters in the country. With over half currently utilizing power line communication, the market opportunity for Echelon is significant. Similar to so many other Latin American countries, Brazil is faced with a myriad of issues which are driving its 2021 smart meter mandate. These include the $5 billion of non-technical losses that the country experiences each year.

Our partner ELO serves 40 utilities in the country with the combined 55 million customers and also works in other Latin American countries. ELO is the first and only manufacturer to receive government approval for a smart meter to date. They are currently installing a number of Echelon-powered production pilots, with utilities that will be operational and providing usage and analytic data this quarter. We expect larger pilots in the second half and volume shipments in 2013.

Following closely on the heels of Brazil will be China, where we are also utilizing our subsystem strategy. The Chinese market is a 300 million-meter market divided into the State and Southern grids. As the world's largest transmission company, covering nearly 90% of China and serving over 1 billion customers, the State Grid Corporation of China, or SGCC, is the driving force behind the nationwide effort to build a Smart Grid. SGCC is planning to invest a total of $600 billion into a nationwide transmission network with $100 billion dedicated to developing smart grid technology, most of which will occur from 2011 to 2020. In addition to meeting soaring electricity demand, China's efforts to build a nationwide Smart Grid will play an integral role in helping the country achieve 2 goals over the next 10 years: Increasing renewable energy power generation to meet 15% of energy demand and reducing the carbon intensity of China's economy 40% to 45% from a 2005 baseline.

Currently, we are setting up 2 field trials of our power line technology in China with our partner, Holley Metering. We will be submitting products for state grid approval in Q2 and expect state grid approval for Holley's meters this year, followed by pilots and deployments beginning in 2013. Because communications in Chinese smart meters is modular, we can also pursue the installed base retrofit market.

Turning to Smart City as part of our commercial market on Slide 9. Once again, we saw street lighting wins in geographies that meet our geographic ranking criteria. Recently, we announced that we are partnering with Elcom Technologies in Vietnam to provide our subsystems as part of an energy control networking solution to power the country's first smart street lighting system in Hanoi. Initially controlling 28,000 of Hanoi's street lights or 25% of the total, the system will help monitor and reduce energy consumption and improve public safety. With the good safety, cost and functionality paybacks, street lighting is fast becoming an anchor application for the smart cities of tomorrow. We have a strong and growing pipeline of street lighting deals now extending beyond Europe and Asia, and are enthusiastic about our prospects in this space in 2012 and beyond.

On to Slide 10, turning to the Smart Building applications, also part of our commercial markets. Outside of the demand response area, we believe we grew at roughly the market rate in 2011. On the product front, we realize that because most opportunities today are coming as a result of building retrofits, we need to support more controlled protocols than just LonWorks. With our just-announced gateway application that leverages both the LonWorks and BACnet standards, building owners do not have to lock in to a single vendor or protocol. Instead, they can develop best-in-class smart buildings by integrating multiple standards and multi-vendor products.

In addition to facilitate and even lower cost, an easier way to do business, we recently introduced a new version of our network operating system and tools for developing and managing building automation and supporting multiple grid aware applications. We also launched our Router 5000 module, allowing for the creation of larger, higher performance building control networks. We believe these moves will allow us to increase penetration of the Smart Building market over time.

In summary, we made solid progress in 2011 and believe that our newly focused vision and continuously improving execution is the best way to combat 2012's tentative smart energy market. Although the macro economy and conditions in Europe remain uncertain, we believe we see sufficient pipeline and cost improvement opportunities to drive modest growth and profitability on a non-GAAP basis for the year. I look forward to updating you on our progress.

Before I turn the call over to Bill Slakey, I'd like to thank all of our employees for their continued hard work and the important accomplishments in 2011 and we look forward to an even better 2012. Bill?

William R. Slakey

Thanks, Ron. Good afternoon, everyone and thank you for joining us. Let me start by saying I'm excited to be a part of the Echelon team and I look forward to meeting many of you at upcoming events and conferences.

In my remarks, please note that all references to non-GAAP amounts exclude stock-based compensation and restructuring charges. For ease of reference, we have prepared a complete non-GAAP statement of operations for the quarter ended December 31, 2011, which can be found on the Investor Relations section of our website. I'd also like to note that we have made a change to the way we will report revenues going forward. In keeping with Echelon's systems and subsystems strategy and recent changes to the sales organization, we will now report revenues separately for system sales and subsystems sales rather than associate revenue with the markets we sell into. For example, in the fourth quarter, system sales equated to our previous utility sales. And subsystem sales were a combination of our commercial sales and Enel revenue. Going forward, sales of components and subsystems to partners such as ELO in Brazil and Holley in China will be categorized as subsystem sales rather than utility sales. Additionally, we will continue to report Enel revenue separately to you into its affiliate status.

So starting with Slide 12, as Ron discussed, financial results for 2011 included very strong revenue growth and a significant reduction in the non-GAAP operating loss. Results for Q4 included a non-GAAP operating loss that was slightly better than the company's guidance in November. I will discuss guidance for Q1 in a moment.

Turning to Slide 14. Revenues for the fourth quarter were $40.5 million, up 4.4% from $38.8 million in the fourth quarter of 2010. The majority of this growth was driven by system sales of $26.4 million, up from $25.3 million a year ago. Fourth quarter subsystem sales were $14.2 million, comprised of $12 million in commercial revenues and $2.2 million from Enel. In aggregate, subsystem revenues increased slightly from $13.5 million in the fourth quarter of 2010, driven by higher revenue from Enel.

Turning to Slide 15, for the year, total company revenues increased 41% to $156.5 million. Systems revenue increased 74% to $99.4 million, and accounted for 64% of total revenue. Subsystems revenue increased 6% to $57.1 million and accounted for 36% of total revenue.

Moving to Slide 16. Fourth quarter non-GAAP gross margin was 40.0%, down from 44.3% a year ago and from 41.4% in the third quarter. The sequential decline in gross margins was due primarily to higher shipments of the CNX 3000 module in meters that we delivered to Fortum.

As discussed in the third quarter earnings call, we will provide a firmware update for that module later this year but until that time, we incurred the increment hardware cost while deferring the revenue. In the fourth quarter, the impact of these shipments reduced gross margin by approximately 1.5 percentage points from what they would've been had all revenues been recognized.

On a year-over-year basis, gross margins have been impacted by a higher mix of systems revenue and an increase in commodity and labor cost at our contract manufacturer.

Looking at operating expenses. While revenues were up 41% in 2011, non-GAAP operating expenses for the year grew just 4.9% to $69.7 million. In the fourth quarter, non-GAAP operating expenses were $17.2 million, a decrease of 7.8% compared to the same period last year. This was the result of expense reductions implemented earlier in 2011 and the timing of project-related costs in R&D.

For the fourth quarter, non-GAAP product development costs declined 16.2% to $7.7 million compared to the fourth quarter of last year. Non-GAAP sales and marketing expenses decreased 1.6% to $5.8 million. Non-GAAP G&A expenses increased 3.2% to $3.7 million.

Interest and other income was $129,000 in the fourth quarter, up from interest and other income of $13,000 in the same period last year. This improvement was driven by an increase in foreign currency translation gain we recognized during the fourth quarter of 2011 compared to the gains [indiscernible] in Q4 a year ago.

Non-GAAP net loss for the quarter was $1.3 million or $0.03 per share compared to a non-GAAP net loss of $1.8 million or $0.04 per share in the fourth quarter of 2010. For the full year of 2011, non-GAAP net loss was $3.4 million or $0.08 per share compared to a non-GAAP net loss of $17.8 million or $0.43 per share in 2010.

Moving to the balance sheet on Slide 17. We ended the year with cash, cash equivalents and short-term investment of $58.7 million, a $2 million decrease from Q3, and a decrease of $6 million from the fourth quarter of 2010. We did see an increase in accounts receivable in Q4 of $8.2 million compared to Q3. Depending on the timing of shipments related to larger utility projects and to larger industrial companies, our DSOs can become scratched. DSOs at the end of Q4 were 79 days, a large increase from 56 days at the end of Q3 and more in line with the 72 days we saw at the end of Q1.

With that, I would like to turn to guidance for the first quarter and our goals for 2012 on Slide 18. We expect total revenue for the first quarter of 2012 will be in the range of $39 million to $41 million, with systems revenue making up 70% of revenue and subsystems 30%. We expect subsystems revenue will be down sequentially as a result of lower contribution from Enel. We anticipate non-GAAP gross margin to be approximately 40% for the quarter. We expect to deliver the CNX firmware during Q1, which will allow us to recognize the deferred product revenue, which is a positive for gross margin. But mix shift from lower subsystem revenue to Enel and mix shifts within the systems business will offset that benefit in the quarter.

As the year progresses, we expect to see an increase in quarterly revenue from Enel, additional revenue from shipments of the CNX 3000 and the benefits of cost-reduction efforts we have discussed on previous calls. With these, we expect these actions will eventually drive quarterly gross margins back above the margins we saw in the second half of 2011.

Finally, for the quarter, we estimate our GAAP loss per share will be between $0.11 and $0.14 a share, and our non-GAAP loss per share will be between $0.04 and $0.07. For the full year of 2012, we remain committed to achieving our goal of non-GAAP profitability. Our model is built upon the assumptions of modest revenue growth from the various initiatives that Ron described to you, as well as gross margin improvement and tightly controlled growth in expenses. We will need to carefully monitor the broader economy and its impact on our markets and on our ability to grow revenues, but we believe a great deal of the gross margin improvement and expense control is in our hands.

And with that, I would now like to turn the call over to the operator for questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of John Quealy with Canaccord Genuity.

John Quealy - Canaccord Genuity, Research Division

A couple of questions here. First, going through the customer concentration, it looks like Duke, life-to-date, somewhere in the neighborhood of $60 million. Can you comment how much more is left to do on the current iteration of Duke?

Ronald A. Sege

It's Ron. We can't specifically. It will be an important part of our revenue stream for 2012. As you know, there's a disconnect between when we shift meters and recognize revenue and when they deploy them. However, we're still active in deployment and we expect that to continue through 2012.

John Quealy - Canaccord Genuity, Research Division

And I guess in terms of the guidance, in terms of reiterating non-GAAP profitability, I think in the past you guys are saying $150 million to $160 million in revenue. Can you walk us through, is that top line still valid for that or what are the moving pieces to your assumption in the '12 goal?

William R. Slakey

John, this is Bill Slakey. You're right, the $150 million to $160 million breakeven revenue number, it's a number we can get to it, something like 45 points of gross margin. Gross margins are a little light. We will need a little more revenue. The basic for getting there are continued growth in the systems business and in the subsystem business, start to see some payoff from the initiatives Ron talked through towards the second half of the year.

John Quealy - Canaccord Genuity, Research Division

Okay. And then my last question, in terms of the subcomponent strategy with Holley in China, and thanks for the visibility on when you think you're going to get some indications of potential projects there, but can you talk about the addressable market or what the economics could look like to Echelon assuming that the customer traction picks up in the '12, '13 timeframe?

Ronald A. Sege

Sure. So as I mentioned in the prepared remarks, it's a 300 million meter market. We believe that will be predominantly power line communication. Holley is among the top 2 or 3 players there. There are probably 10 meter manufacturers overall, but 3 of them have a dominant amount of share. In addition to getting revenue from new meters that are shipped with our technology, power line or communications is socketed and user sort of field replaceable in China. So we can go after the 30 or 40 million meters that are already installed as well. So from 2013 on, we're relatively bullish about our opportunity there in China.

John Quealy - Canaccord Genuity, Research Division

And I'm sorry, just one last one on building side, so you finally opened some protocols with BACnet. Is that more of a sort of industry standardization, or could there be some sort of immediate opportunity? I realized non-res is still tougher, but can you talk about expectations about that capability now?

Ronald A. Sege

It certainly opens up more addressable market for us, John. Sort of historically, we kind of forced our customers to choose between LonWorks and BACnet, which maybe is okay in a new build-out. It's typically not okay in a building retrofit because you've already got existing protocols operating there. So I think as we get the word out, as we continue to ramp up our marketing on the building side, it can significantly improve our market exposure. BACnet has a good percentage of market share probably comparable to LonWorks. So it definitely gives us more runway.

Operator

Our next question comes from the line of Patrick Jobin with Credit Suisse.

Patrick Jobin - Crédit Suisse AG, Research Division

First, just a real brief question on, I guess, some of the softness on the commercial segments. So without the Enel revenue coming in maybe in the low end of your guidance for the quarter, is that market share-driven or just a weak overall market? Just some color there, then I have a quick follow-up.

Ronald A. Sege

And so I think on the non-Enel side, we're reflecting basically holding market share, but the market being relatively muted. In addition, we have not -- demand response has been a relative weak point for us and we don't expect that to pick up in the near term either.

Patrick Jobin - Crédit Suisse AG, Research Division

Okay. And then I just wanted to touch on some of the drivers for gross margin improvement throughout the year. You have the benefit coming from the additional module, being able to recognize that revenue. Maybe walk us through what you see as the big cost out opportunities or is it all mix shift-related throughout 2012?

William R. Slakey

Yes, Patrick, this is Bill. So as we get further out into the year, you're going to see us introduce reduced costs units. Those products were put into development about the middle of 2011. They will start to come out towards the middle of 2012. And that will be a big part of driving gross margins up again. And then as we grow through the year, we expect Enel revenues to recover and that mix shift will help us as well.

Ronald A. Sege

And then we expect the other elements of our subsystem strategy to start kicking in, in the second half of the year also.

Patrick Jobin - Crédit Suisse AG, Research Division

Great. I guess one last question, if I may. Just briefly, can you quantify the size of the trials that are going on with Holley?

Ronald A. Sege

Well, right now, they're technology trials because we don't yet have state grid approval, so they're basically proof of concept that the superiority of our power line technology. So by definition, I mean, they're large enough to be impressive but I mean they're not going to move the needle for us, even if we could recognize revenues. So until we get approvals, we're just in technology trial mode.

Patrick Jobin - Crédit Suisse AG, Research Division

Okay. With approval in Brazil, will those pilots potentially in the second half be slightly larger or...

Ronald A. Sege

Yes, definitely. Those are all production trials that we're installing now, and we expect those to continue and to accelerate in the second half of the year.

Operator

Our next question comes from the line of Elaine Kwei with Jefferies.

Elaine Kwei - Jefferies & Company, Inc., Research Division

Just going back to Slide 8 in the presentation on the pilots in Brazil and China, regarding the timing, what indications do you have for getting visibility on the timing? Is it RFPs or regulatory deadline or anything else on both of those?

Ronald A. Sege

In Brazil, the market's just getting started. So it's driven by couple of things. One is the visibility that our partner ELO has in the marketplace and the influence that they have over their customers, which we're very bullish about. They're a big player there and have a great track record. So as our technology proves out, which it will, because it's based on the same platform we're using all over the world, we're bullish about moving quickly into revenue in 2013. And then in China, we're really putting our hand in a stream that's already moving. We can start shipping in volume relatively quickly once we get through the state grid approval.

Elaine Kwei - Jefferies & Company, Inc., Research Division

Okay. And then in Europe, you got some -- you've got volume deployment going on with Fortum in Finland and another one slated to start with Fortum in Norway beginning next year. I was wondering how you're outlook is for potential expansion there to more deployments in that country or region and what the timing might be looking like.

Ronald A. Sege

We have a very good pipeline of systems opportunities there that we're working, and maybe fortunately, our exposure is especially strong outside of the EU, so the Nordic countries and in Eastern Europe. Although with our subsystem strategy, we believe we have opportunities in places where, historically, we told you we didn't, so for example, in France. So I'm happy with our position from a pipeline perspective. As you know, Elaine, the tentativeness around the European macro situation is what weighs most heavily on us. And no RFPs have been canceled. We have started to see just the slightest indication of delays in decisions and deployments. We're hoping that doesn't get worse, but that certainly is one of the things that caused us to be tentative in our outlook for the year.

Elaine Kwei - Jefferies & Company, Inc., Research Division

Would you say that those delays are something that you're seeing across the industry, or are there any particular types of projects or sort of sub-applications that are getting hit worse than others?

Ronald A. Sege

Within Europe, I would just characterize them as general. I do want to be clear that it's not affecting our current deployments. So projects that have been decided and are funded are not affected. So my commentary really is about that decisions yet to be made that are in our pipeline. But I can't say that it's specific. I just think there's a lot of tentativeness relative to spending because of the austerity measures that have taken all throughout Europe.

Operator

Our next question comes from the line of Ahmar Zaman with Piper Jaffray.

Shawn E. Lockman - Piper Jaffray Companies, Research Division

This is Shawn for Ahmar. I guess I was wondering if you could give us some insight. I know you're obviously not wanting to give us any sort of guidance for 2013 and '12, but as we look at sort of this new reporting structure between systems and subsystems, is it reasonable to expect that subsystems will become kind of a greater mix of revenues as we sort of move forward with the ramp up from ELO and Holley?

Ronald A. Sege

I think that's reasonable. I guess I would just caution you that there's sort of less revenue per point in our subsystem strategy, more margin percentage per point than there is on the system side. So when you asked a question about revenue, you have to take that into consideration. But in general, we're very enthusiastic about our subsystem strategy in 2013 and beyond because that's how we're participating in what we believe are the fastest-growing smart grid markets on earth, namely in Brazil and in China and in other parts of Asia. It will be very modest for 2012, the contribution, but then it will accelerate in 2013 and beyond. And I do want to underscore that while we're very enthusiastic about our subsystem strategy, we are fully committed to our system strategy and see that as an important driver for growth going forward where we have good markets stints like we do in Europe and other IEC countries and here in North America.

Shawn E. Lockman - Piper Jaffray Companies, Research Division

Great. And can you give us a little bit more color on how things are proceeding in Brazil just in terms of the pilots and the kind of ramp that you would expect in second half '12 and then the '13 once we get to sort of full on deployment?

Ronald A. Sege

So we're installing pilots now as I mentioned in prepared remarks. We expect to have those up and operational by the end of the quarter and producing both usage data and analytics data because in Brazil, as in the rest of the market, analytics are increasingly important. So the ability to predict outages minimize outages to deal with the variability of renewables coming online and so on. And by the way, we believe we have a significant competitive advantage in terms of our ability to produce analytic data that's predictive with our power line technology. So that's going to go on through Q1, and then that will lead to bigger pilots, more pilots in the balance of the year, which will follow the -- be followed by deployments in 2013. And again, we believe we've got a good jump on the market because we're the first and only smart meter system that has government approval and, therefore, the only one that's currently getting into trial right now.

Shawn E. Lockman - Piper Jaffray Companies, Research Division

Great. And just one final one, I think you mentioned previously that you would expect in 2012 or Bill may have mentioned that in 2012 that Fortum and Duke would be a significant percentage of revenues. Can you give us some kind of direction about how significant that percentage of revenue may be between those 2?

William R. Slakey

Shawn, no -- we don't want to get into customer-by-customer guidance, but it will be very -- they will be an important customer to us this year.

Operator

Our next question comes from the line of Joe Maxa with Dougherty & Company.

Joseph A. Maxa - Dougherty & Company LLC, Research Division

The gross margin commentary I missed earlier when you suggested where you would see it in the second half of this year, were you talking getting back above that 45% or just off the 40% that you are looking at now?

William R. Slakey

The commentary was that we would expect gross margins to get above the margins we were seeing in the second half of 2011.

Joseph A. Maxa - Dougherty & Company LLC, Research Division

Okay. So we're looking at margins in the low 40s for the year from what you're saying and you're still looking at potential profitability on a pro forma and you indicated you need higher revenues to do that, I see how we get there. Are we looking at revenues maintaining this $40 million level plus per quarter? Do we have some lumpiness where we might see a quarter drop back?

Ronald A. Sege

Well, there's a lot of variables in that model you just went through there, but I think what we're going to do today is stay away from quarter-to-quarter guidance on revenues through the year. But you're right, we do need revenue growth during the year, and depending on exactly where gross margins settle out, there's a range of revenue outcomes that get us to the non-GAAP profitability.

Joseph A. Maxa - Dougherty & Company LLC, Research Division

Right, of course. The Fortum and Duke being such a big customer in 2012, are they -- are we kind of running to the end of their life, if you will for 2013?

Ronald A. Sege

Well, in the case of Duke, we are actively deploying in Ohio, and that will be a big contributor in 2012 and a smaller contributor in 2013. We're awaiting regulatory approval in Indiana as you know, and we don't have any additional information on that. We're ready and able to deploy as soon as that goes through, but personally I'm not overly optimistic that that's going to get resolved in the near term, which is another reason for our cautionary tone here. And then Fortum is deploying in volume, but we've got another Fortum that we expect to pickup in 2013 and then like I've mentioned, we got this big pipeline, 3x what it was a year ago. We've got the exposure to Brazil and China. That will all kick in to 2013. So we'll expect new business for 2013 plus our subsystem strategy kicking in, plus hopefully a little more robustness in the global macro economy, especially in Europe.

Joseph A. Maxa - Dougherty & Company LLC, Research Division

And lastly, you've given some color on Russia and Japan in the past. Can you give us a little update on what you're seeing in those 2 countries?

Ronald A. Sege

Sure, we are continuing to deploy in Russia and get good feedback. We would expect that country to be a bigger contributor to revenue this year than last year. In terms of Japan, I'm actually headed over there in a week, so I'll have a much better view at that point. But we continue to see and be weighed on by the economic situation over there, although there is indication that the smart meter market may start showing some signs of life a little bit in 2012, but then in 2013 and beyond and that's one of the primary reasons for my trip over there is to see how real that opportunity is, and we would almost certainly employ our subsystem strategy there as well.

Operator

Our next question comes from the line of Craig Irwin with Wedbush Securities.

David Giesecke - Wedbush Securities Inc., Research Division

This is actually David in for Craig. I was wondering if you could give us an update on the canceled Duke ECN contract. Is there a chance that it could come back? And then also, what about further implementation beyond just Ohio?

Ronald A. Sege

As I mentioned just previously, of course, there's a chance it will come back. It's first and foremost dependent on Duke getting regulatory approval in Indiana, which you follow as closely as I do, but I'm not optimistic that that's going to get resolved anytime soon. So we pushed any incremental revenue from Duke other territories out of our 2012 planning horizon. We do see a good interest and good pipeline for the Edge Control Node in Europe. Again, there's a lot of interest in getting beyond the meter, if you will, and doing collecting analytics that allowed decisions to be made to minimize outages that manage the micro grid, the neighborhood grid, if you will, as renewables come online in a more aggressive fashion. So we're very enthusiastic about the opportunity there and have just started shipping first articles of the Edge Control Node into Europe for evaluation.

Operator

Our next question comes from the line of Dale Pfau with Cantor Fitzgerald.

Dale Pfau - Cantor Fitzgerald & Co., Research Division

Most of my questions have been answered, but let's go back to the ECN for a minute. Is there a chance you can get the ECN involved with some of your subsystems work as a collector aggregator across networks with some of those customers also?

Ronald A. Sege

It surely is a part of our subsystem strategy. We're today focused on it as a system play because that gets us most experienced with the product and gets us closest to the customer. But we certainly actually had inquiries from others who want to incorporate this platform into their solution, and it's totally designed to do that.

Dale Pfau - Cantor Fitzgerald & Co., Research Division

And how about is there interest among other sort of domestic utilities, U.S. utilities about deploying your ECN with other people's meters or other people's types of nodes?

Ronald A. Sege

We have had inquiries there, and I'm ever so cautiously optimistic. I will say, as I've said before in the context of our geographic ranking system that we don't see the drivers here in the United States to drive smart grid adoption, especially at the edge of the network to the rapid pace we see in other places like Europe, like Brazil and like China. So we certainly are trolling, would engage with a U.S. utility. But I think the fundamental demand here in the U.S. is still a couple of years off.

Dale Pfau - Cantor Fitzgerald & Co., Research Division

And then one last question on the commercial, commercial has bumped around a little bit. We thought we were seeing some signs of recovery last year. Now it sounds like your tone is slightly less optimistic. What are you hearing from your customers? Or is this still an economic function? Is it still tied primarily to new building rather than retrofits? And is your strategy to address the macro rather than just to expand your footprint there?

Ronald A. Sege

Good question. Most generally, we continue to be tied to the rates of tenant improvements. And we don't see any sort of general indication that the market is improving there. I did mention in my prepared remarks, Dale, that by becoming multi-protocol, which is a first for Echelon, that over time, as we market that and engage with our OEM partners, we think that, that can help us gain market share and grow faster than the tenant improvement market, if you will. But that's not going to happen until the second half of 2012 and beyond.

Dale Pfau - Cantor Fitzgerald & Co., Research Division

And one last thing I forgot to mention, street lights have been going well for you. Is that still an area of growth that you expect in 2012 and what kind of growth do you expect in that area?

Ronald A. Sege

Yes, sir, we continue to be very bullish about street lighting. We have a big pipeline there. We've kind of regularly, quarter in and quarter out, announced a new win there. There's a great ROI. We do not break out the street lighting vertical, if you will, from our others, but I do expect it to be one of the faster growing verticals moving forward.

Operator

Our next question comes from the line of Ben Schuman with Pacific Crest Securities.

Benjamin Schuman - Pacific Crest Securities, Inc., Research Division

When you talk about pricing pressure and the utility market, are you referring to new deals out there that you're competing for only, or is there a pressure that's affecting projects that are deploying right now? And then on top of that, are you backing away from any deals based on pricing?

Ronald A. Sege

It's new deals. And let me just say we have not backed away from any deals based on pricing.

Benjamin Schuman - Pacific Crest Securities, Inc., Research Division

Okay. And then is there any material ECN revenue component in Europe in your outlook for non-GAAP profitability or implied in the outlook for non-GAAP profitability for 2012?

Ronald A. Sege

No. I mean, we will expect some trials and, therefore, some amount of revenue, but I don't expect it to be material in 2012.

Benjamin Schuman - Pacific Crest Securities, Inc., Research Division

Okay. And then can you guys just give us the EAC revenue for the quarter? I know the full year revenue was disclosed there, but the Q4 rev will be helpful.

William R. Slakey

Ben, this is Bill. I'll have to give that to you on our call afterwards.

Operator

Our next question comes from the line of Paul Coster with JPMorgan.

Paul Coster - JP Morgan Chase & Co, Research Division

Holley and ELO, these exclusive arrangements with these 2-meter vendors, or are they working with other embedded solutions suppliers as well?

Ronald A. Sege

They are technically not exclusive. However, and I know this is a rumor that's out there, especially as it relates to ELO, it's very difficult and costly for a meter developer to work with multiple embedded suppliers at once. And we are incredibly active with ELO, we see them every other weekend. I'm very confident that we're effectively exclusive partners in the technology areas that we're collaborating on. Now obviously, the Smart Grid business requires a big ecosystem, and there are things that we don't make that they need and so on, and there we have cooperative relationships with MBM suppliers and so on. Does that help answer the question?

Paul Coster - JP Morgan Chase & Co, Research Division

Yes, it does. And so the adjacent question really is what is the value of the subsystem sales to you on a per unit basis? Can you kind of help us from of forecasting perspective, maybe it's too soon, but at some point we're going to have to start putting numbers around these projects.

Ronald A. Sege

And I think we've kind of given a little bit of guidance earlier. I would -- the range per point across our subsystems and systems business is just a little bit sub $10, up to, say, $100. So depending on whether we're in a street lighting deal, where it's always a subsystem. And we've said previously, think in terms of $10 to $15 per pole, or if it's a full-on, high-end meter sale powered by ECN, then you think $100 a point, and that's from a revenue perspective. And then as I mentioned on a percentage basis, the margin should be higher on a subsystem sale than on a system sale since we're focused more specifically on our unique value add in the subsystems business than we are in the systems business.

Paul Coster - JP Morgan Chase & Co, Research Division

So even Holley and ELO, the value per node could be as high as $100 for you?

Ronald A. Sege

No, because Holley and ELO are strictly subsystems play. So when I talk about systems, I'm talking about, for example, our entire electricity meter plus either our Data Concentrator or our Edge Control Node, plus our head-end software. The value of that in total, again, could be as high as $100 and maybe even more depending on the configuration of the Edge Control Node. When we do business with ELO or Holley, we are selling our platform or I affectionately call the guts of our system and then they are packaging that into their own meters, their own Data Concentrators and their own head-end software, more or less depending upon which partner we're talking about. So there, the revenue per point would be closer to the low end of the range, but that units will be higher because we're more broadly exposed, for example, in both those markets, we're playing with the #1 or #2 player. So we got a lot more market exposure there than when we would if we had our own sales people on the ground. Does that make sense?

Paul Coster - JP Morgan Chase & Co, Research Division

Yes, it does. My last question on this subject is do you believe Holley and ELO can be material like between the two, that were in combination greater than 10% of revenues in 2013?

Ronald A. Sege

I would not prognosticate on that level of precision. The subsystem strategy is our goal is for it to be material, and we think it will contribute significantly starting in 2013.

Paul Coster - JP Morgan Chase & Co, Research Division

Okay. Lastly, you got 3x increase in the pipeline. Is that a cut uniformly across all segments? And can you just explain how you did that, did you just saw a kind of -- how did you incentivize the sales team to do such good job of expanding things so rapidly?

Ronald A. Sege

Frankly, I joined the company a little over a year ago, and between me and Michael Anderson, we're both very focused on pipeline growth, activity-based selling, qualification, going where the money is, if you will. And it's just selling as in many respects, a forced march. If it isn't well-organized, if the sales force isn't driven, if they're not trained then you typically don't have much pipeline. So it really was as simple as we focused on it and we applied the science of selling to it.

Operator

[Operator Instructions] All right, ladies and gentlemen that will conclude the question-and-answer portion. I'd now like to turn the presentation back over to Mr. Ron Sege for closing remarks.

Ronald A. Sege

Okay. So I just want to say thank you very much for your interest this quarter, and we will be talking to you at conferences in next quarters. So have a good evening. Bye bye.

Operator

Ladies and gentlemen, that concludes today's conference. Thank you so much for your participation. You may now disconnect. Have a great day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Echelon Management Discusses Q4 2011 Results - Earnings Call Transcript
This Transcript
All Transcripts