Nov 13, 2008
Executives
Pat Moore – Director of Investor Relations Vic Richey – Chairman and Chief Executive Officer Gary Muenster – Chief Financial Officer
Analysts
Kevin Maczka – BB&T Capital Markets Carter Shoop – Deutsche Bank Richard Eastman – Robert W. Baird & Co., Inc.
Paul Coster – JP Morgan Steve Sander – Stephens Incorporated John Quealy – Canaccord Adams
Operator
Good day and welcome to the ESCO fourth quarter and year end conference call. Today's call is being recorded.
With us today are Vic Richey, Chairman and CEO, and Gary Muenster, Executive Vice President and CFO. And now to present the forward-looking statement and introductions, I'd like to turn the call over to Ms.
Pat Moore, Director of Investor Relations. Please go ahead, ma'am.
Pat Moore
Good afternoon everyone. Statements made during this call regarding the timing and amounts of fiscal 2009 expected results, sales, cash flow, EPS, future growth prospects, anticipated deliveries to our AMI customers, the success of AMI pilots, success in international markets, and other statements, which are not strictly historical, are forward-looking statements within the meaning of the Safe Harbor provisions of the federal securities laws.
These statements are based on current expectations and assumptions, and actual results may differ materially from those projected in the forward-looking statements. Due to risks and uncertainties that exist in the company's operations and business environment, including but not limited to, the risk factors referenced in the company's press release issued today, which is an exhibit to the company's Form 8-K filed today.
We undertake no duty to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. In addition, during this call the company may discuss some non-GAAP financial measures in describing the company's operating results.
A reconciliation of these measures to their most comparable GAAP measures can be found in the Fiscal 2008 Results press release issued today, and found on the company's website at escotechnologies.com under the links Investor Relations, Financial Reports, and SEC filings. I'll now turn the call over to Vic.
Vic Richey
Thanks, Pat. Regarding 2008, we're happy with what we view as very solid operating results across the company.
Not only financially, which Gary will discuss in a moment, but also from the repositioning of the business earlier in the year. The sale of Filter Tech and the acquisitions of Doble and LDIC truly transformed our business and put us in a much stronger position going forward.
Our highest growth, highest margin business, Utility Solutions Group, is now well over half of our revenue and greater than 60% of our profit. Doble and LDIC also bring a significant level of predictability due to their recurring revenue model.
Additionally, they significantly expanded our footprint in the increasingly important international markets. With the divestiture Filter Tech, we now have a focused filtration business addressing aerospace and space markets from a position of strength.
At the same time, we eliminated our filtration exposure to the challenged automotive market. I'll now turn it over to Gary to discuss the '08 financials, and then I'll wrap up by giving you some insight into '09.
Gary Muenster
Thanks, Vic. As noted in the release, adjusted EPS from continuing operations was $0.87 a share, excluding the $0.11 of non-cash amortization related to the TWACS NG software and purchase accounting related assets.
GAAP EPS was $0.76 a share, which represents a 33% increase over the prior year fourth quarter in spite of a more challenging economic environment. Recapping Q4, we're very pleased with our year-over-year results, which I've detailed in the release.
I'll briefly touch on just a few of the highlights. Sales increased 40% with the Utility Solutions Group growing 79%, and filtration up over 12%.
EBITDA orders increased over 82%, with the Utility Solutions Group EBIT more than doubling during the quarter. Additionally, we entered nearly $180 million of new orders during the quarter, which represents a 63% increase over the prior year fourth quarter.
In Q4, our order amount included another $34 million from PG&E business, which brings the total cumulative PG&E order book to 2.7 million units, with an aggregate value of $171 million. For the full year, you'll note that every operating metric for 2008 was up substantially over the prior year in spite of significantly higher interest expense, additional amortization charges and a higher effective tax rate.
My only additional comment here is to highlight the Utility Solutions Group performance compared to prior year, where sales increased 84%, EBIT dollars were up approximately 200%, and EBIT margin as a percent of sales increased 700 basis points. On the balance sheet, I remain very comfortable with our current capital structure and our available liquidity.
I am pleased that even with the cash that we spent on the LDIC acquisition during the fourth quarter, we continue to reduce our net debt outstanding, which was below $200 million at September 30th, resulting in a very comfortable 2.2 times leverage ratio. Regarding cash flow, net cash provided by operating activities on a continuing ops basis for the year was over $76 million, and we generated approximately $25 million in cash from operations during the fourth quarter.
Firm orders continue to be a huge positive for us during 2008 as we booked $633 million in new business, representing a 35% increase in orders compared to 2007. As a result, we begin fiscal '09 with a backlog of approximately $267 million.
I mentioned the PG&E orders a few moments ago, but as a supplement, I want to point out that the order numbers mentioned do not include the recent announcements of nearly $125 million in new business opportunities such as the Winds of Idaho Power, New York City Water, and the selection by the city of Toronto, their water department, for a system-wide AMI project. All of these wins certainly validate our enthusiasm on our confidence towards our growth prospects in '09.
And now I'll turn it back over to Vic to provide some additional insight into our '09 plan.
Vic Richey
Yes, thanks, Gary. We expect 2009 operational EPS adjusted for certain tangible assets to be within a range of $2.42 to $2.57 a share.
This equates to GAAP earnings between $2 and $2.15 a share. This includes intangible amortization and Aclara RF facility exit and move costs, which are expected to be around $0.05 a share.
While it's not our practice to provide quarterly guidance since we always have several moving parts and certain long-term contract deliveries, you can move a month or two around at quarter-end, I will tell you that consistent with our 2008 results, while not as severe, our 2009 EPS outlook by quarter is again more heavily weighted toward the second half. With that said we expect favorable EPS comparison during the first half of '09 as compared to the first half of '08, and based on our current expected range, should reflect EPS growth of around 35%.
Also I want to remind you that during the first quarter of 2008, we had the cumulative catch-up of deferred revenue and profit related to the delivery of the TWACS NG software to PG&E on the POS side of Aclara. This resulted in $20 million of revenues and $8 million of EBIT in Q1 due to obviously not being repeated in fiscal 2009.
In spite of that large negative comp, we're still expecting a first half EPS improvement that I noted above. Our '09 EPS range at the midpoint represents an increase of approximately 15% over the $1.80 reported 2008, and our sales at the midpoint are expected to increase roughly 10% over 2008.
Next I'd like to share some thoughts about how we developed our fiscal '09 plan, and I'll provide a little more color around our growth opportunities as we currently see them. Our filtration business continues to show modest GDP-type sales growth heading into '09, and we believe we've taken a prudent and conservative approach here.
Out test business, while facing some economic challenges domestically, continues to see reasonable growth opportunities in Asia and other international markets. Based on our current data proposal activities, which remain high, Asian customers such as NATRIP and others do not seem to be slowing down their planned spending on new product design and development, which benefits our outlook.
Within Utility Solutions, we'll continue to benefit meaningfully from Doble, where we will realize a full 12 months of high margins result in '09 versus the 10 months we owned them in '08. Besides a favorable calendar impact, we continue to see reasonable organic growth at Doble supplemented by the LDIC acquisition.
On the AMI side, we fully expect to see a meaningful ramp up of gas products in '09 to a West Coast customer, along with the startup of both the Idaho Power and New York City projects, which are both incremental to fiscal '08. Our coop and muni outlook continues to be solid, and we fully expect certain of our international AMI market opportunities to begin at some level of system deployment in 2009, which will also be additive when we compare it to this year.
Also I want to reiterate the fact that our Aclara fixed network Water Solution seems to be really taking a dominant market position in the U.S., which is based on active opportunities where we seem to be taking a leadership position. Keep in mind that the water market is very large, and it is in the early stages of its migration towards a fixed network solution.
We fully expect to continue to capitalize on the situation with our Aclara RF solution. In summary, we're very pleased with our financial performance in fiscal '08, and while continuing to face economic challenges along with everyone else, we see our financial outlook entering ’09 as reasonable.
I’d now be happy to address any specific questions you have.
Operator
(Operator Instructions). Your first question comes from Kevin Maczka – BB&T Capital Markets
Kevin Maczka – BB&T Capital Markets
First question on margins, if I did my math right, it looks like incremental EBITDA margins in ’08 were north of 40%. But it looks like you’re forecasting something less than that if you were to hit your revenue target and this minimum $120 million EBITDA target.
So maybe Gary can you just comment on anything that might negatively impact margins if you were to achieve those revenue goals?
Gary Muenster
I would say some of the mix changes we have through the filtration segment, singling out VACCO in particular, is their mix changes between what we call high margin spares on the defense or military side, getting replaced with some of these space product deliveries that we are anticipating in ’09 for this as we mentioned before the Crew exploration vehicle. The margin shift there, on some of these recurring things on defense in some cases eight to 10 points higher.
So as the mix changes there, it’s going to impact that. Also within the power line side of the business the deliveries that we had to PG&E in the first half of the year and accumulative catch up obviously carried a lot higher margins than the average.
So we’re replacing them with new business. It’s at the front end where the margin’s a little bit lower, plus it’s impacted by additional TNG amortization in ’09 because after we delivered 3.0 in fiscal ’08, we’re going to have a full impact in ’09 for the what I call the full run rate of TNG, so those things kind of work against us there.
On the Doble side it’s pretty consistent across the broad. So those are really the only two or three things that I see that could put some pressure on the margins.
Kevin Maczka – BB&T Capital Markets
And then Gary obviously so much focused on worst case scenarios and a global downturn lately. Can you just talk about the three segments and have you noticed any change at all in your customer behavior, maybe in the month of October, where things really seemed to get much worse in the macro environment in general?
Vic Richey
This is Vic let me just speak to that quickly. It’s pretty early on with this.
I would say that we haven’t seen any cancellations of product, of deployments or of products being bought. We haven’t seen any returns.
We haven’t seen anything of that magnitude. I would say to date, we’re hearing some things, I would say we’re certainly hyper sensitive to what’s going on these days and what customers are saying.
But to date I would say we haven’t seen any significant change in consumer’s behavior. But that’s something we’re going to have to, like everybody else, monitor on a real time basis going forward.
Gary Muenster
And I’ll add one thing to that Kevin, just focusing on cash flow. We are cash positive for the first six or seven weeks here of the fiscal year, and that’s a good sign because if some of our customers were experiencing a little bit of a challenging financial situation they possibly could have extended terms or tried to negotiate discounts or in some cases if customers were shaky enough that they might have got in an awkward spot.
But we didn’t see any of that either, evidenced by a strong cash flow for the – roughly for the first half of the first quarter. So we’re pleased to see that at least holding up in the early stages.
Operator
Your next question comes from Carter Shoop – Deutsche Bank.
Carter Shoop – Deutsche Bank
Just wanted to follow up with that last question, even though you haven’t seen any cancellations, or customer delays, does your 2009 guidance suggest that you expected to see something?
Vic Richey
Yes, what we did, we went through a pretty rigorous planning process this time. I would say even, I think we usually do a pretty good job of that, so obviously I hesitate to say that we really did a good job this time, because that might make people think that we didn’t in the past, but I would say that we have gone through the numbers, a number of times.
We did our first financial review back at the end of August and when things started turning October, we had everybody resubmit their plans and I would say that as a result of some of the activity the numbers did come down and then with a couple of the larger organizations, we went through that process again just a couple of weeks ago. And then you know Gary and I as we typically will do, sat down and kind of put our own view on what we thought was going to happen.
And so I would say that the operating units maybe a little more bullish than even we are at this point but I think it’s prudent. Having said that we are showing some pretty significant growth in ’09 over ’08 and that’s why I tried to describe some of the differences in ’09 versus ’08.
I mean this isn’t like it’s all just going to be all organic growth. I mean we do have some one off things like LDIC in for the year which we didn’t have last year.
A full year of Doble versus 10 months of Doble, kind of a full run rate of PG&E versus they were a little lighter in the first half of the year in the gas deliveries than they were in the second half of the year. So there’s some very specific things that we can point to, to give us some comfort that we should be, that we should see some growth.
Having said that, I mean nobody knows where the markets are really going to go but given the information today, I think we’re taking a very prudent approach here and probably a little more conservative than we have been in some years in the past.
Gary Muenster
I’ll add one other thing, Carter, just as Vic said with this multiple iterations of the re-planning. As we experienced in 2008 we had some timing issues, which really were economic driven in some cases as well as customer driven in the test business, where some of these large chambers might have been slow rolled a little bit on the customer end.
And so I think we took a reasonably conservative approach in how we not only looked at the new business. But how we looked at the existing business as to how it was going to time phase itself throughout the year.
So we kind of baked in a little bit of project slippage, not necessarily moving out of the year. But there might have been for example projects that tentatively were expected to start December 1st; we might have moved those back to March 1st or something like that.
So we looked at it on a project specific basis but we also looked at it relative to customers possibly delaying the start up, whether it was for financial reasons or whatever. So I think in the test business in particular we kind of stared down those numbers a little more aggressively than at any of the other subsidiaries because that’s where in ’08 we kind of dealt with the most challenging timing of that stuff.
We brought it in strong at the end of the year, but we kind of reassessed our evaluation process for ’09. I think we’ve taken a prudent approach there.
Carter Shoop – Deutsche Bank
Gary as a follow up there when you look at the AMI projects, be it gas, electric or water, are you factoring in some slippage there in the macro environment? Or do you think that the utility spending environment will remain relatively resilient over the next 12 months?
Gary Muenster
Yes we did make a little bit of movement back on some of the larger projects where we do have visibility. And those are the easier ones to manage around because we have daily contact with the customer.
I’d say where we took a more conservative approach is when you look at the sum of all the little guys, the $0.5 million, $1 million, $2 million whatever co-ops, munis and that sort of thing, I think we took a little more aggressive haircut on who would go forward in ’09. And then on some of the ones where we are in dialogue with the customer might have been planning something in December or January, we either moved it to the summer or maybe even the fall.
So I think we looked at – we stratified the customer base into large folks who again we have daily contact with and then we kind of took a top level approach to the sum of the, I don’t know how many it is, let’s call it 50, little bitty guys that all add up. And then I think that’s where we kind of did a little corporate assessment and moved the calendar around a little bit on those, and baked in some attrition where they might not go forward.
With the munis in particular, based on the credit markets and that sort of thing, the smaller guys might be facing a little bit more challenging situation relative to where they get their funding from. So I think we looked at all levels of that.
Carter Shoop – Deutsche Bank
And just to clarify though, you have not seen any push outs on AMI business yet, but you are factoring that in?
Vic Richey
Not as of yet no.
Carter Shoop – Deutsche Bank
And then could you provide us with an update with regards to your international opportunities that you had discussed in the press release and help us understand how much international AMI business is baked into to ’09 guidance?
Vic Richey
Yes we still have a relatively small number baked in to the into our ’09 guidance; it’s less than $10 million.
Gary Muenster
Around $10 million.
Vic Richey
Less than $10 million and part of that is some deployments we already have underway, so we’re not anticipating a big win that we start big deliveries on in ’09. But we do think that some of the pilots that we currently have underway will be expanded within the year.
Carter Shoop – Deutsche Bank
Great, last question on PG&E Electric, you had 100,000 unit orders in September, does your '09 guidance suggest or discount any future orders on the electric side?
Vic Richey
We’re not anticipating-- we’re not counting on any additional orders on the RF side and certainly we’re not counting on any additional PLS orders either. I mean we don’t think that we’ll get any additional PLS orders and we’re not baking in any additional RF orders.
Gary Muenster
The only thing that actually comes through on the revenue is line is of the 300 or so units that we have for PG&E under order, in '08 less than half of those shipped so we will have some revenue coming in for the run out of what we have in backlog. But we’re not, as Vic said, we’re not baking in any additional stuff.
Operator
Your next question will come from Richard Eastman – Robert Baird
Richard Eastman – Robert W. Baird & Co., Inc.
Vic, could I just clarify you had said first half ’09 earnings would be up 35% year-over-year? Did you – is that the way you phrased that?
Vic Richey
Yes, if you look at the first half of ’08 versus the first half of ’09.
Richard Eastman – Robert W. Baird & Co., Inc.
Right. And what are the odds of having an up first quarter?
I mean just given the kind of lump sum recognition on the revenue and profit that makes for a big hurdle and I am just trying to gauge, excluding that, presumably up earnings is a lay up. Is that fair?
Vic Richey
Well I don’t – those numbers are in there and again I don’t want to get in to quarter-by-quarter deal for all the reasons we talked about before because we did have some slippage, but we’re feeling good about the first half of the year and if you think about the fact that so much more of that its in the backlog in the second half of the year that’s where we have the confidence that we’re going to have that type of improvement.
Richard Eastman – Robert W. Baird & Co., Inc.
I understand and then what were the sales to PG&E in the fourth quarter?
Gary Muenster
Approximately $43 million.
Richard Eastman – Robert W. Baird & Co., Inc.
43?
Vic Richey
That included some electric as well as – kind of a fully run rated.
Richard Eastman – Robert W. Baird & Co., Inc.
Okay and the current backlog, the current modules that you have in backlog for PG&E does that solidify kind of the shipping schedule out into what, the second quarter, on the GAAP side of PG&E?
Vic Richey
Yes, they’ve been – what we’ve shipping, I’m not sure what the installation rate is per quarter, but we’ve been shipping in kind of a Q3, Q4 timeframe about 500,000 units for the sales side. So if you look at where they're at now on total orders in ’08 on number of units versus what we’ve shipped to them it probably gets us at least into January or February based on where we’re at.
I don’t know that we have enough to go through the whole quarter but I will say that the way their order profile works, and if it’s almost – we ship it and we get the next one, we ship it we get the next one, so when you look at the magnitude of the dollars of orders to the magnitude of the sales. They tend to kind of just continue to roll over.
So but where we’re at in that process relative to the number of units cumulatively that we’ve shipped on the gas side. We’ve shipped a $1.5 million cumulatively since the start of the project on the gas side.
So and relative to the order book they have there it's roughly $2 million so.
Operator
(Operator Instructions). Your next question from Paul Coster – JP Morgan.
Paul Coster – JP Morgan
Thank you. Good afternoon, night, clearly you're seeing some strength still in the test segment and filtration.
Can you give us a little bit of color around which industry verticals are holding up for you? And how you anticipate that evolving in either of those two segments through the remainder of next year?
Vic Richey
Yes, well let's talk, let’s start with the easy one first. I think filtration and certainly what continues to drive that business primarily the aerospace business.
We pull our horns in a little bit just because of the Boeing strike I would say that put things, set things back just a little bit but certainly we think long-term that the aerospace business is going to remain strong. So we don’t have a lot of growth baked in they’re for that reason but we do see that as a solid business going forward and a very profitable business.
On the test side you have to look at it in a couple of pieces. The MRI business, MR shielding business remains very strong at both domestically and internationally, but particularly domestically.
I mean if you look at the test and measurement portion of the business we’re seeing the strength really, again, in Asia and those end customers really vary. Obviously we got the big Boeing Aerospace job that we're finishing.
We have the automotive chambers we're building in India, as well as a couple of other large chambers in India and China. So it's really kind of across the board and I think that's one reason while even though a lot of the specific end markets are getting hit in a little bit we're not so dedicated to one that a downturn there would have a big impact.
And also a lot of the larger chambers that we're currently doing are really more for – funded by the government, like the ones in India for the automotive industry. So, that's a little more stable than just electronics company that's looking to put one in for new product developments.
So, it's really kind of across the board that the things are kind of – we're winning today, I would say is our Asian operations and even Europe has had some level of strength. If you look at that test business we're about 60%, in '08 we did about 60% of that business outside of the U.S.
Paul Coster – JP Morgan
Am I correct in assuming that the pricing is U.S. dollars?
Gary Muenster
No, we deal in local currency for the most part, it really depends on where the end customer is purchasing from. And why I say that is important, there are some customers where we manufacture in Austin, Texas and ship it to China, and there's other ones that we manufacture in China and ship within China.
So, the currency really is pretty well local currency driven, so we do have currency risk on the things that cross borders. But when we're within Europe we produce, manufacture and sell in Euros.
In China it's local currency, but if we're shipping from the States there then we do have some currency exposure, which obviously with the dollar going in the direction that it is, puts a little bit of pressure on it, but fortunately it's not a huge number. To give an example, in '08 it was roughly $4 million positive and so if the thing moves the other way to the same level that we had in '08 you could have $4 million at risk.
But I think we've baked in, obviously we'd have to forecast around expectations of where the dollar strength or weakness is going to be baked in, and I think we've done a fair amount to maintain a reasonable level of conservativism so that we're not going to see a $4 million hole created in our plan because currency went upside down.
Paul Coster – JP Morgan
You've been gaining share it seems in the RF segments of the water market, why?
Vic Richey
I think the product works really, really well. I mean if you look at in New York City for instance, I mean, they did a pretty extensive trial with ours and other systems and I would say the performance that they were able to achieve was exceptionally good.
And one area where we really excelled with that specific project was because we used that license frequency and being in New York City we were able to get the signals out of the basements, out of the pits and things like that, very reliably where some other systems struggled doing that. So, I think it's really a matter of performance.
I would say that from a pricing prospective we've been able to maintain our price that we've had historically. So it really is all about performance.
Operator
Your next question comes from Steve Sander – Stephens Incorporated.
Steve Sander – Stephens Incorporated
Just a follow up on PG&E, what are you expecting on the gas side in terms of shipments in '09? I think we've heard a couple of numbers, last quarter you talked about maybe something in the $80, $90 million range for the year.
It sounds like it's been running higher than that, so can –
Vic Richey
I would say that's pretty consistent with what our expectations are.
Steve Sander – Stephens Incorporated
Okay, then do you feel like the installation is picking up such that you don't expect a significant interruption over the course of 2009?
Vic Richey
Yes, I was out there about a month or so ago, and I forget the exact number that they're installing but it's pretty impressive how many they are getting installed. So, we've not seen any indication of that.
And certainly as you know that the overall project's a little bit behind schedule from what they initially thought so they are pulling out all the stops to catch up on those installations.
Gary Muenster
And Steve the number around that, I think we talked about this at the end of June, that was a concern some folks had they might have been buying things faster than they could put them in and they were building up inventory and there was maybe a little concern on your guy's side they might have to put it on hold to kind of let the inventory bleed off or catch up. I will say that relative to where that inventory was in number of units, that June 30th versus now, it's about 33% lower, meaning they've caught up on their installation profile.
So what they're sitting at some level of inventory with number of units is 33% lower than it was in June. So, they're going in the right direction.
Steve Sander – Stephens Incorporated
And I think New York and Idaho are three year projects and Toronto's five, how do we think about those in 2009?
Vic Richey
Yes, Idaho we started some deliveries there, I mean, I would say this year's probably going to be the lightest of the years, and certainly the same thing with New York. We're not looking at starting that project in gusto until the second half of the year and starting to put some infrastructure.
And it's probably going to be second half of the year before they start significant installations.
Gary Muenster
And on Idaho how they're doing it, Steve, obviously they put the substation equipment in first as the hub and then they build the spokes around it. So they're investing right now their time and efforts directed towards the substation equipment because they, obviously that's the thing that takes the longest to do and they want to make sure they have that right on the installation side before they start building the spokes.
So, the real high runner things really won't start on Idaho until probably January, February, March kind of thing, because they'll have enough substations in by then that they can start hitting the pods on the spokes to get the transponders in.
Steve Sander – Stephens Incorporated
Okay, and then last question, the bookings in filtration looked like they were a little bit soft in the quarter, anything unusual there?
Gary Muenster
No, not really, I mean that's historically what we had is some of Virginia class submarine product that is the one off things that are $1 to $2 million and that's coming near the end of its life in next year. So there was not a Virginia class order in this quarter as there has been historically.
But taking that out of the equation I don't think –
Vic Richey
I mean there's always a little bit of ups and downs but nothing of concern.
Operator
Your next question comes from John Quealy – Canaccord Adams.
John Quealy – Canaccord Adams
A question on the AMI, in the U.S. and outside the U.S., can you comment on some of the projects you're chasing down, electric, gas, water, what the pace has been, especially for some of the, there's only a couple of handful big ones left out there, in the near term for RFP in short lists.
Can you talk a little bit about your expectations on timing on some of those big ones and how you feel competitively?
Vic Richey
I would–- let me start by saying we're not assuming any big wins that we started deployments with in '09. So, that's one of the reasons we have a little confidence in, we have a lot of confidence in where we're going within the year and that we haven't made that assumption.
If we want to get concerned about something I think anybody in this industry if things are already decision being made, deployment started we can think that's going to go forward and so we see that as a positive. If people are in that process we do see some opportunity that maybe they're going to slow down a little bit and take a harder look at it.
I haven't said that we do have a number, and here I'm talking about the investment in utilities because we haven't seen a change in municipals or the co-ops yet. And so, some of the larger investor in utilities we have bids outstanding, again, we never talk about specifics there but certainly the water and gas side of it is probably a little more active today than some of the electric is because so many awards have been made on the electric side that I think there's some view that '09 is going to be a year were people are really going to evaluate their performance of the vendors they've already selected, ourselves included.
So if you look at some of the things that we've won on the electric side, some of the things that some of the competitors have won on the electric side, people that haven't made a decision yet, I think they're going to see how some of these deployments go. And see if the products really perform as advertised before they move forward to the next level.
John Quealy – Canaccord Adams
And Vic, on the gas side clearly there's at least one really super sized gas project potentially in '09; the utility wants to move forward fairly quickly on it. If you're going to compete for that effectively can you comment on do you need to upgrade the technology or show continued product development for pitching that type of business or do you feel the PG&E [HEX] platform is – the leverage is already there and you can just hopefully exploit that on some of these big RFPs for gas
Vic Richey
I would say the core product that we have is very good compared to what the requirement is. We have made some additional improvements to the products and we, you know a lot of specifics there because I think it’s competitive information or rather not share, but we don’t set still with any of our products and I would say on the gas and water side we’ve made some pretty significant improvements and enhancements.
And to continue to do that and with some of the larger customers we’ve been very aggressive and talking with them about what some of those things are and why we think that not only do we have the most proven large scale system out there today with PG&E but we’re further enhancing that product.
Gary Muenster
John, I’ll just say that having 900,000 gas units in a fixed network system that PG&E installed and working certainly doesn’t hurt.
John Quealy – Canaccord Adams
In terms of international there’s been chatter for a while about that. Can you talk a little bit more about your view on sovereign risks in some of these places where we’re talking about utilities that are only a handful and economies are really under stress everywhere?
So can you comment about your expectations for the international business?
Vic Richey
Yes, that-- international is always a little more troubling as a result of that but if you look at the places we are; we’ve talked about Brazil, Mexico, I mean they all have their economic challenges as well some of the Asian countries we’ve been working in. They all have their challenges there’s no doubt about that.
But they’re not like we’re in some very small countries or countries that don’t have the financial wherewithal to make these decisions if they choose to. And as we’ve talked about before if you look at the pay back in some of the countries particularly in South America and the payback that they can get just by eliminating theft of electricity for instance.
The payback's there and so the investment is something that they can see a return on in a relatively short period of time, much shorter than you can see here. So it’s really all about us getting out and ensuring that we’re effectively helping the utilities understand a real benefit that they’re going to get.
But the international market always is a little more difficult than the domestic market but I think there is really a crying need for products like ours out there and one thing that I think we do referring to the party is a lot of these customers want a good. Solid.
proven robust system that they can put in today and do all the basic functionality and have the ability to grow to some of the more advanced functionality and we can provide that to them today.
John Quealy – Canaccord Adams
And last question, your commentary is you really, as I understand it, you really haven’t seen that much softening on the utilities side thus far across the different end markets. First part is what would cause you to see that?
I mean obviously you’ve seen some pretty bearish comments out of EEI this week about utility CapEx spending. So what are you looking for in your business to signal perhaps a downturn in the customer side and then secondly how comfortable do you feel in the model that you have enough flex points and levers that you can adjust to it quickly?
Vic Richey
Yes, that’s a good question. I guess the first one – well okay on how we’re going to – I’m sorry I was thinking about the second question.
As far as how we stay close to understand when a downturn is going to happen I think the best thing to do and what we’re doing is staying a lot closer with our sales folks because they’re the people that really know what’s going on. I mean you can read all the articles in the newspapers you want and read all the studies you want but I think the most important thing is talk to the people that are talking to the customers because they’re going to get the real scoop on what’s going on.
If there’s capital available, if there is budget available, then they’re going to know about it and if it’s getting frozen out they’re going to know about it as well. So I think that first line of defense is probably the best one we have and so having people out talking to the customers is probably the best thing that we can do.
As far as the – as well as all the others, I mean we do pay attention obviously to some of the more macro things as well, but staying close to customer is I think the best way to do that. As far as some of the other levers, as I mentioned earlier we did take the harder look in at how we’re forecasting this year than we ever have.
And I would say that in talking to our subsidiary management teams we’ve told them that hey we need to be in a position to if it turns quickly to take some action and so an enforcement action usually means if you have to look at spending whether it be discretionary spending, SG&A, whatever the case may be, but we’re putting plans in place now to look at that rather than getting six months into the year and saying oh wow this is really bad and being so far down that you have a hard time recovering. So will look to be very proactive if things do change and we’ll just be a lot more, let's say hypersensitive to any changes this year.
Operator
You have a follow-up question from Carter Shoop – Deutsche Bank.
Carter Shoop – Deutsche Bank
Just on the test and filtration business, can you disclose what percentage of revenue for both those division is from defense-related end markets and then what the impact would be following a pull out from Iraq?
Vic Richey
Are you talking about filtration?
Vic Richey
He said filtration and test.
Carter Shoop – Deutsche Bank
Yes, I mean I know a lot of it's in the actual space business. I think a lot of people kind of group the military and space in together.
I want to kind of better understand how much is actually defense-related versus actually space?
Vic Richey
Yes, Gary's trying to grab some numbers here, but I'll just tell you from the test perspective I don't know that we have anything that's strictly defense-related. I mean, other than this large chamber where we're finishing for Boeing.
But that's a one time project and it's really so that the Korean military and [Tien] can develop and test their own indigenous spiders and so that's not something that has any impact on what we're doing with the U.S. military.
So I would say from the test segment there's really no exposure. On the filtration side all we do there is in defense spares for some specific projects and I would say they've been not high runners in some of the conflicts that we're currently in so it's not like they're burning through a lot of spares based on activity like they have in some other conflicts in the past.
So I would think a pull out from there would have very little if any impact on our businesses.
Carter Shoop – Deutsche Bank
And as a last question, when you look at the opportunity to maybe vertically integrate on the AMI side, particularly on the electric AMI side, have you started to look closely at developing your own electric meter and if so could you provide an update there?
Vic Richey
We have had some preliminary work done, I guess a little more than preliminary work with some low cost manufacturers outside of the U.S., and so, I mean, we're getting a lot of detail about that again because that's more of a competitive issue and it's not necessarily to bring back into the U.S., but those are something we may sell either in that area or in some other areas around the world, but that is something we've had underway for quite some time.
Operator
And there are no more questions at this time. Mr.
Richey, I'd like to turn the call back to you for any additional or closing remarks.
Vic Richey
Okay, appreciate everybody's attention and interest. Again, I think we had a nice solid year and today we're looking at a pretty solid year in '09.
We've got the economic challenges everyone has but I think we're fortunate that given the position we are with our backlog and with our key customers that we have a good opportunity to have some good growth going into '09.
Gary Muenster
Thank you.
Operator
And this does conclude today's conference. We thank you for your participation and have a nice day.