Barbara J. Doyle - Vice President-Investor Relations Philip C. Mezey - President, Chief Executive Officer & Director William Mark Schmitz - Chief Financial Officer & Executive Vice President.

Ben J. Kallo - Robert W. Baird & Co., Inc. (Broker) John Quealy - Canaccord Genuity, Inc. Jeffrey Osborne - Cowen & Co. LLC Patrick S. Jobin - Credit Suisse Securities (USA) LLC (Broker) Andrew Hughes - Bank of America Merrill Lynch.

Good day, everyone, and welcome to the Itron Q2 2015 Earnings Conference Call. Today's call is being recorded. For opening remarks, I'd like to turn the call over to Barbara Doyle. Please go ahead, ma'am..

Thank you, Kevin, and good afternoon and welcome to Itron's second quarter 2015 earnings conference call. We issued a press release earlier today announcing our results. The press release includes replay information about today's call. We have also prepared presentation slides to accompany our remarks.

The presentation is available through the webcast and through our corporate website under the Investor Relations tab. On the call today, we have Philip Mezey, Itron's President and Chief Executive Officer; and Mark Schmitz, Itron's Executive Vice President and Chief Financial Officer.

Following our prepared remarks, we will open up the call to take questions using the process that the operator describes. Before I turn the call over to Philip, please let me remind you of our non-GAAP financial presentation and our Safe Harbor statement.

Our earnings release and financial presentation include non-GAAP financial information that we believe enhances the overall understanding of our current and future performance. Reconciliations of differences between GAAP and non-GAAP financial measures are available in our earnings release and on our Investor Relations website.

We will be making statements during this call that are forward-looking. These statements are based on current expectations and assumptions that are subject to risks and uncertainties.

Actual results could differ materially from these expectations because of factors discussed in today's earnings release and the comments made during this conference call and in the Risk Factor section of our Form 10-Q, 10-K and other reports and filings with the Securities and Exchange Commission.

We do not undertake any duty to update our forward-looking statements. Now please turn to the presentation and I'll hand the call over to our CEO, Philip Mezey..

lower volumes at basic meters as customers prepare for smart meter rollout in Europe; non-cost optimized first-generation smart meters; and factory inefficiencies due to volumes, product mix and a temporary work stoppage in the quarter associated with our restructuring activities.

In addition, some high-end C&I product shipments were delayed due to our global ERP system transition. This issue has been resolved and the shipments will be made in the third quarter. The positive trend in Europe is that smart volumes are increasing and are becoming a greater proportion of our total shipments.

Gross margin on gas smart meters will improve as project deployments and volumes ramp up, and as our cost-reduced meters move into production. We will begin to see this improvement late in the second half of this year, continuing in 2016, given our contracted volumes and our product development schedules.

We're already ramping up volumes in Italy and the Netherlands and shipments on new smart gas projects with GrDF in France and EDF in the UK are planned to begin in the fourth quarter.

We have also completed closure of a gas factory in Naples, Italy, consolidating production into our factory in Reims, France, leading to additional efficiencies beginning in Q3.

We are implementing other longer-term plans to streamline our Gas product lines from more than a dozen different platforms to three and we're making greater investments in C&I products. All of these actions will drive our Gas EBITDA margin back to the high-teens historical levels. Taxes in the second quarter impacted EPS by $0.18 a share.

We experienced an elevated tax rate in the first half of the year, which spiked in the second quarter. Adverse market conditions and weak business performance in Europe have impacted our ability to utilize tax assets in certain countries. I'll let Mark address any tax questions in more detail.

However, I will say that the solution to reduce our effective tax rate is sustained, improved profitability across our European operations.

Given our contracted volumes, revenue forecast and cost reduction plans that are in process, profitability in EMEA will begin to improve through the remainder of the year, which should result in a lower tax rate in the second half of the year.

Let me also give you an update on Itron's restructuring, which is a critical initiative to achieve our mid-teens EBITDA margin goals. In July, we completed the review and negotiation with European Works Councils, which was a key milestone. This means we can now begin the notification process.

We anticipate a net workforce reduction of approximately 500 positions by the end of 2016. We anticipate that 300 positions will be eliminated by the end of this year, primarily in the fourth quarter.

In addition to the closure of our gas factory in Naples which was completed in the second quarter, we are also in final stages of divesting a non-core business and closing two Electricity facilities – a factory in South Africa and an assembly facility in Saudi Arabia.

We are making strong progress on our restructuring initiative and we are on track to achieve $40 million of annualized savings by the end of 2016, with approximately $15 million of the total achieved by the end of this year.

The go-forward ongoing impact of the restructuring will be a significant positive long-term impact on our margins and profitability. I'm also pleased to announce the hire of Tom Deitrich to the position of Executive Vice President and Chief Operating Officer.

Tom joins us from Freescale Semiconductor, where he most recently served as Senior Vice President and General Manager for Digital Networking. Tom has over 20 years of experience with expertise in designing and delivering quality networking and sensor products.

He has a proven track record of leading global operations and driving successful transformations, including positions at Freescale, Flextronics, Sony and GE. Tom is completing transition plans at Freescale and will begin at Itron in October.

To summarize, Itron is growing and we continue to take significant steps to propel our business into the next phase. With that, I'll turn it over to Mark..

Thank you, Philip, and good afternoon everyone. I'd like to begin by restating a point that Philip made a couple of times. We are very disappointed by the poor operating results recorded in the first half of this year. We put in place an immediate freeze on non-strategic hires and deep cuts in all categories of discretionary spending.

We are, however, optimistic about the outlook for this business, the turnaround in our largest segment, Electricity, the progress made in our the restructuring program, the continued strength in Water and the improvement we expect to see in our Gas business. We are on and action putting at Itron.

Now, if you refer to slide four in our presentation, which summarizes consolidated company revenue for the second quarter 2015, revenues were $470 million for the quarter compared with $489 million in 2014. As Philip said, Itron is growing. On a constant currency basis, revenues increased by $31 million or 6% driven by our Electricity business.

This revenue growth was offset by changes in foreign currency exchange rates, which decreased revenues by about $50 million. As you can see on slide five, foreign currency headwinds negatively impacted non-GAAP EPS by $0.08 compared with last year. EPS was also impacted by an elevated tax rate and increased total warranty costs.

These three items currency, tax, and warranty costs reduced non-GAAP earnings by $0.73 compared with last year. Operationally, EPS was impacted by lower gross margin performance in our EMEA Gas business and higher operating expenses.

Operating expenses increased compared with last year driven by higher sales and compensation in Electricity due to improved performance in that business, increased product development investments in Gas and Water, and higher personnel, professional services and IT costs in G&A.

In addition, we continue to have duplicate costs in product developments and G&A while in the process of executing our restructuring plans. Slide six summarizes key financial metrics in the quarter. Total gross margin was 25%, compared with the prior year period margin of 33%.

Gross margin excluding the quarter two special warranty charge in Water business would've been 30%. Excluding the special warranty charge in Water non-GAAP operating margin would've been 4% and adjusted EBITDA margin would've been nearly 6%. Free cash flow was $10 million in the second quarter.

For the full-year, we anticipate total free cash flow will be lower than 2014, principally due to higher cash taxes and interest and the anticipated severance payments related to our restructuring activities. We continue to have a strong balance sheet with ample liquidity.

We ended the quarter with a $129 million in cash, and in June, we refinanced our existing debt. Our new credit facility provides for $725 million of bank financing over a five-year period at terms no less favorable than our expiring facility.

During the quarter, we used $6.8 million to repurchase 188,000 shares of common stock pursuant to the $50 million repurchase plan authorized by our board in February of this year. Now, I'll turn to segment performance, beginning with Electricity segment on slide seven.

Electricity continued to see strong revenue growth compared with the second quarter of last year, continuing the momentum seen in the first quarter. Revenues grew by approximately 11% in nominal terms, and 19% in constant currency. Our North American smart grid business was the key driver of Electricity's revenue growth.

Electricity gross margin of 25.9% was 290 basis points lower than last year. The 170 basis points of decline was due to a $3.6 million warranty reversal in the prior year as a result of lower costs than estimated on a warranty matter in Brazil.

A $2 million inventory write-off related to our restructuring activities also impacted gross margin in this quarter. Non-GAAP operating margin improved over last year by 210 basis points, primarily driven by reduced employee litigation expenses in Brazil.

Overall, we were very pleased with the Electricity's growth and continued operating margin improvement in the quarter. Now let's turn to the Water segment on slide eight. Water revenues were down by 16% compared with last year in nominal terms and 2% in constant currency. Water is more subject to weakness in the euro than our other two segments.

The currency-adjusted decline was primarily in our Latin America region related to constrained spending in Brazil. We expect this will persist and continue to impact our Water revenues in that region for the remainder of this year. Delivery of warranty replacement product in North America commenced in the quarter.

We have begun adding additional production capacity to manage the increased warranty replacement volumes while meeting customer requirements. We do not anticipate any material impact to our North America Water revenues for the full year resulting from the warranty replacement activity.

The warranty charge impacted Water's gross margin in the quarter by 18 percentage points. Gross margin would have been approximately 36% excluding the warranty charge, up just slightly compared with last year.

Similarly excluding the warranty charge, operating margin would have been approximately 11% down from 15% last year, primarily driven by increased general and administrative costs and R&D investment in solutions for water opportunities around the world. Now turning to the Gas segment on slide nine.

Gas revenue of $139 million declined compared with last year by 10% in nominal terms and were flat with last year in constant currency. We continue to see strong performance and backlog in our North American Gas business.

In EMEA, higher volume with smart meters in Western Europe were offset by lower basic meter volume and a decrease in prepayment Gas meters due to timing of a large project in Azerbaijan. EMEA gross margin is the core of the profitability issue in Gas.

We anticipate a positive effect on EMEA gross margin in the fourth quarter due to changing product mix and improved factory efficiencies. Bookings and backlog are summarized on slides 10 and slide 11.

Bookings were $398 million in the quarter with a number of diverse bookings across many customers including an OpenWay Riva booking with Eletrobras in Brazil and a multi-year managed services agreement with Duquesne Light in Pennsylvania.

Gas business awards from Vector Energy in Indiana and CenterPoint Energy and a large prime Water business awarded in water including Agbar in Barcelona, Suez Water in France, and Yorkshire Water in the UK. Our 12-month backlog of $791 million is up 17% compared with last year supporting our guidance for revenue growth this year.

We ended the quarter with a healthy backlog of $1.37 billion. Now, I'll turn to our guidance update for 2015 as outlined on slide 12. We are increasing our revenue guidance. We're now forecasting $1.85 billion to $1.95 billion of revenue for the full year. This growth reflects continued strong performance in the North American Electricity business.

We're expecting higher revenues in all three segments in the second half of the year compared with the first half, notably in Electricity, based on scheduled shipments including FirstEnergy Consumers, Duke Energy, and Duquesne Light.

We are reducing our full year gross margin and EPS forecasts due to several factors, including the warranty charge incurred in the first half of the year, greater than expected weakness in our Gas business in EMEA, and the potential for continued softness in Latin America modestly impacting our Water business in the second half.

These factors more than offset the continued improvements we are forecasting in the Electricity segment, as well as the cuts we are imposing on discretionary expenses and hiring. We are guiding to a 30% gross margin for the year and non-GAAP diluted EPS of between $1 and $1.30 per share. Our guidance assumes a euro-to-U.S.

dollar exchange rate of $1.12 and average diluted shares outstanding of 38.5 million. Our EPS guidance reflects a potential for modest upward pressure to our previously provided non-GAAP effective tax rate of 37%. We expect a lower effective tax rate in the second half of the year given our forecasts for improving profitability in EMEA.

It was a tough quarter but market conditions continue to be favorable. We have taken some structural actions that are beginning to yield results and we are taking the appropriate short-term actions to recover some of the first half earnings shortfall. And with that, I'll turn the call back over to you, Philip..

Thank you, Mark. I'll make a few closing comments before we take your questions. First, we are taking significant and aggressive actions to drive operating improvements and reduce costs. Benefits of our restructuring will begin to improve in the fourth quarter of this year.

Additional head count and facility savings will be realized through the completion of the restructuring when $40 million of cost benefits are expected to be achieved on a run rate basis from the end of 2016.

I also want to emphasize that our full year top-line guidance is tracking higher than our previous guidance, propelled by our smart technology offerings. This performance underscores our confidence in our long-term opportunities.

The fundamental growth trajectory for our business remains strong, demonstrated by 17% year-over-year growth in our 12-months backlog and the sequential increase in 12 months backlog each quarter since Q4 of 2013. We continue to innovate and our customers recognize the value of our industry-leading products and services.

We're encouraged by the results of our product development to date, and we remain confident that our focused R&D will generate long-term growth. We are executing plans to achieve mid-teens EBITDA margin in 2017.

This target is firmly supported by our backlog growth, operational improvements in our Gas business in EMEA, the realization of our restructuring cost benefits, plans for streamlined, standardized smart metering platforms and new cloud-based services.

Looking toward the future, we continue to see opportunity in software and services to further differentiate Itron solutions and add to our long-term growth. We've established our services organization under the leadership of Bruce Douglas.

The focus is already driving benefits, including the announcement of a new solar solution that combines production measurement, asset monitoring, sensing applications, and forecasting and a managed services offering for solar generation.

In addition to the multi-year agreement we discussed last quarter with Duquesne Light in Pennsylvania to run their network operations, we won two new managed service contracts with energy providers in Germany. Both of these utilities will utilize Itron Total Services to monitor renewable generation, in compliance with Germany's Renewable Energy Act.

Itron has also been selected to provide our OpenWay Riva solution on the Tongan Islands in the South Pacific. Tonga Power will deploy our OpenWay Riva solution to more than 20,000 customers on the main island as part of its smart island goals.

After installation is complete later this year, we will also provide managed services to Tonga Power for system management and maintenance of Itron's cloud-based services for data collection. In Water, the City of Murfreesboro, Tennessee has selected Itron to modernize its water distribution.

The city will use Itron's smart water metering system, leak detection and analytics to improve management of their water system. I'll close by reiterating that I'm very pleased that Tom Deitrich will be joining Itron, adding to the depth of our leadership team.

After extensive discussions with Tom, I'm confident that he'll accelerate efficiencies in our standard business beyond our current projections, while driving innovations in Itron's technology and services portfolio to meet the changing needs of this industry and capture additional growth opportunities.

Operator, now let's open up the call and take some questions..

And we'll take our first question from Ben Kallo with Robert Baird..

Hi. Thanks for taking my question.

Hi, Phil, we saw the acquisitions of Elster by Honeywell and I think one of the questions we had was with their operating margins, EBITDA margins compared to where your business is at, specifically on the R&D spend that you have without any kind of top-line growth, we are trying to put all that together with some of the commentary about investing in the business but without seeing any outcomes there.

So, could you just gives us a little bit of color on what we should expect there or why isn't there a greater cost reduction coming? Thanks..

Hey, it's Phil, Ben, first on the Elster acquisition, I mean, we're very pleased to see a strategic and disciplined buyer invest that much money in the sector and really reiterates the promise of what's seen in this area for growth. A significant part of Elster's business in the midstream and heat combustion business is outside of the metering space.

Elster has been very disciplined in improving their operating model and reducing cost, no question about it. But we are mixing the Gas business line, the significant area of Gas business where we are not present and where we are present in the metering space. We have a different strategy in the metering space.

We are moving beyond basic metering to meters communications, software, and services and ultimately to managed services. This is a somewhat different model than what we see in industrial companies that typically invest 3% to 4% of revenues into R&D.

We see in companies in communications and networking space investments in the 8% to 12% of R&D category and in the software and services space in the 12% to 20% of R&D. So I get to an 8% to 9% target as we look at the selected investments that we are making in each one of these categories.

And to the comment that we don't see the benefits of those, there is a 39% increase in our overall backlog last year, 17% increase in our 12-month backlog this year. We are seeing the benefits and competitive differentiation in market share wins, using with these investments.

As to the comment about cost reduction, as you know, we've been talking for some quarters about this restructuring plan.

This was an extensive negotiation through some structured labor markets, we are very pleased with the progress on restructuring and the ability to now start taking out 300 heads by the end of the year and a total of 500 as we consolidate a number of factories and we'll see the benefits of that cost reduction..

Thanks..

We'll go next to John Quealy with Canaccord Genuity..

Hey, good afternoon, folks. So just a couple of questions. I guess, I'll start with my bigger question. So warranty charges, this is a common theme and whether it's transistors that are audio control, whether it's BC Hydro one specs, whether there is other minor tweaks in warranty, this is a common theme.

So, Phillip, talk to us about what the board is thinking about to change this. I assume you're going to have to go through this with your auditor at year-end in terms of warranty accruals and things like this.

But, I guess, how do we fix this? Do we lower gross margins in accrual – make our accrual higher or do we go to our customer and get more value for our products. I know this is an comment but for you guys, it seems particularly acute. And then I have a couple of follow-ups..

Okay. John. So, I mean, there are two things that we're working on, performance and predictability.

On the performance side, this is about continued growth in not only our revenue lines, but very importantly at the gross margin line by reducing variability by consolidating factories and running them more efficiently so an increased focus on operational performance at that level and with the bringing in of Bruce Douglas and somebody who is very, very focused on service delivery, the kinds of issues that we see in these complex product deliveries, we're managing much more closely.

So performance is about overall EBITDA increase through revenue growth, through gross margin expansion by running our operations more effectively as we are managing and reducing cost, particularly in the operating expense category through this restructuring initiative.

Predictability is about removing the level of variance that we see in these in the size and frequency of these special charges.

This is a significant area that we're very focused on in terms of improving our overall quality program, our supplier management programs, making our overall quality program visible throughout the company with very, very strong leadership and emphasis and getting into stronger risk management and developing key performance indicators and really increasing the transparency of the organization so we can be more proactive in anticipating these issues.

As to the comment about the auditors, we work extremely closely with them on an ongoing basis and reviewing these issues. This is not something where we get to the year-end review. So there is no issue with the auditors.

And as to the comment about the board, we've recently met with and reviewed with the board all of our operating action plans and have a very clear path of alignment with them..

Okay. Thanks for that. Secondly, on the enterprise selling efforts or the software efforts I know you've reinvigorated that effort with a new gentlemen, I guess, launching right around DistribuTECH.

Can you comment qualitatively how you feel, I know it's early, but how do you feel about those efforts and I know you talked about solar briefly, but more broadly on software, how do you feel?.

Yeah. I think that the opportunity is really terrific for us.

What we've done in the intervening time since the announcement of launch is a full audit and survey of the services that are out there, a survey of the marketplace focused areas where we think that there is margin improvement opportunity for us with the current services that we're delivering and new opportunities for us to expand both in managed services and analytics.

And as you heard from the deals that we've discussed in the release today, we're moving towards much more frequent scenario where we're winning new installation business but also managing that business after it has been installed, which gives us the opportunity then to transition to providing new insights about the data.

The gentleman you mentioned, Bruce Douglas, has developed a business plan to drive highly profitable growth in this area and that plan has been reviewed as a part of an annual strategy process and we are beginning to make the initial investments and really propelling that business forward even more rapidly..

Okay. Thanks. And my last question maybe for Mark. $32 million, I believe, it's SG&A. Is that a good run rate for the rest of the year? I know we've got some head count reductions coming, I assume, and a one-time charge. But can you just comment on that level going forward? Thank you, guys..

Yeah. In general, we think our offering expenses are going to pretty similar in the second half to the first half.

I would say that, keep in mind, our G&A in particular is still burdened by little bit of duplicate costs as we continue to rollout the implementation of Oracle and our Global Business Services, our shared services operation in Ireland and those costs will come down next year..

We'll next to Our next is Jeff Osborne with Cowen & Company..

Hey, great. Good afternoon. I just had two questions. Most of the topics have been addressed already. But one, Philip, I was just wondering if you can touch on the pace of RFP activity that you are seeing in particular on the Electric side, regionally, it would be helpful.

And then I was wondering just in terms of Tom Dietrich, looking at the companies that he has worked at before, I mean, how would you characterize his core competency as a COO? Is he a turnaround guy, a quality guru, what kind of in a nutshell, how would you characterize him as he comes onboard?.

Super, Jeff, thank you to great question. So RFP activity, you said particularly in Electric, regional breakdown, very strong in North America. Of course, we talked about this increasing regulatory support for smart grid investments in Pennsylvania, New York, New Jersey, Ohio, Massachusetts. So there are very, very sizable opportunities.

Obliviously a lot talk about New York REV and the opportunities that there are there. With the Clean Power Plan, we see an opportunity for long-term acceleration of business in North America. So, very healthy outlook in North American smart metering side on Electricity.

In Europe, again, targeted approach for us in focusing on markets where we have high-value differentiated offerings in which we're expanding the number of pilots in order to demonstrate value and increase that electric metering over time.

We are getting to now the shipment window on ERDF and beginning the shipment of those Generation I meters and we have a very significant bid on – we have a so-called G-III qualified product – and ready for the significant next round of bidding at ERDF.

UK, as you read in the press, has experienced some delays in the overall implementation, but we are moving forward with some of the initial deliveries there; of course, with the larger deliveries waiting on the so-called SMETS2 standard and another round of bidding there. And then, Latin America, as you have heard, there is some activity there.

Eletrobras is the deal that we have pursued; great opportunity and that's a particularly important one to us because the new OpenWay Riva offering. That Riva win in Tonga is small but important for us in terms of getting very advanced technology out there.

In Asia Pacific, we continue to see the opportunities be Hong Kong, Singapore, Malaysia, Thailand, Australia, New Zealand. So a nice build for us in which we see not only the 12-month backlog increasing, but the ability to maintain or improve the overall company backlog through those – through that large bid performance.

As to Tom, and what's attractive about him to boil him down, it's really as you saw the latest assignment in networking and sensing, so very, very deep technology expertise. But also there's really important balance with his prior work in high-scale manufacturing and performance at Flextronics.

So, really finding somebody who is about performance improvement and excellence and able to see both large scale multinational operations, driving those very, very cost-effectively and efficiently, understanding what we should be doing in-house and outside of the house; very, very valuable insights there.

And then a very strong technology background on how to drive and differentiate, embed technology and drive profitability. So, an excellent spectrum of skills for what we see coming up..

Sounds like it. Appreciate the details, Philip. Thank you..

Thanks, Jeff..

We'll go next to Patrick Jobin with Credit Suisse..

Hi. Thanks for taking the question. First one, just thinking about 2016, is this a high-growth year as some of these contracts kick in? Is this a more normal growth year or is this a transition year, just given what you are seeing from a timing perspective? And I have a few follow ups. Thanks..

So, yeah, Patrick, I mean we're not in a position to give full guidance on 2016, but we have commented on the fact that we do see stronger than average growth in 2016, really as a result of the already booked contracts and the other contractual commitments not yet in our formal backlog.

So this was the discussion about not only did we see a significant build-up of our total company backlog, but that we have visibility to shipments in North America in places like Consumers and Duke not yet fully in backlog, to other European shipments with companies like ERDF and GrDF in which there is visibility beyond the backlog, which we see deploying and committed in 2016.

So we would definitely characterize 2016 as an above normal growth year..

Thank you..

And we'll also start to see some real benefit from the restructuring in 2016..

Yeah..

Got it.

So just a housekeeping item on tax rate, what should we expect there? And then really my second question is, how much of your mid-teen EBITDA target by end of 2016, I guess, into 2017 is predicated on costs out versus, I guess, revenue growth or a mix shift occurring to kind of higher value products? This would be helpful to understand what you need to achieve to get to that mid-teens EBITDA target.

Thanks..

Okay. I'll let Mark comment on the tax rate and then I'll come back with that mix question..

On the tax rate – and I believe what I just said in the discussion part of the call – was that we expect to see some modest upward pressure from the 37% that we had forecast or we had guided to earlier as a full-year effective tax rate.

Now what that means is that we will see a lower rate in the second half of the year than we've experienced thus far. And without being too precise on it, let me say the second half of the year, the way we look at it, should be somewhere below 30%.

Why is that? It's because of the dynamics of improving profitability particularly in Germany and France where we have deferred tax assets that are fully impaired. So if you understand that where we have losses in Germany and France today we get no credit for that because the deferred tax assets are covered by valuation allowances.

To the extent, we get income there; we get a actual benefit of having no tax levied on those profits. So that's what's happening as we see it in the second half. A better operating results, Germany and France that is heightened by a favorable tax effect, pushing our tax rate down in quarters three and four below 30%.

And Philip, do you want?.

Sure. On that mix, I mean, Patrick, we're not in a position to provide full detail.

I'll give you just a little bit of color on that which is the first thing that is taking us towards that mid-teens EBITDA target is this goal that I've stated of high-single digit EBITDA in Electricity by the end of 2016, that's $40 million of low margin exits in 2014, $50 million of exits.

I mean, so Electricity grew significantly year-on-year, that's even with the removal of fair amount of low margin revenue that we're taking out of the mix. So we have an overall mix improvement by strategically exiting some markets where we were not making our targets.

At the same time, we're taking out $40 million worth of cost and as we see an increase in the focus and shift to the North American products that are already in backlog that have higher margin.

At the same time, we are consolidating some facilities, which help with our overall efficiency, which really helps us to improve our performance in a number of different areas and we are investing in sophisticated products to drive to this higher margin areas.

So, yes, it is a range, a balanced range of revenue growth, again, visibility in backlog, in attractive areas as we exit low margin areas, reduce cost and continue to invest in higher margin products in the future..

Thank you..

We'll go next to Andrew Hughes with Bank of America Merrill Lynch..

Good afternoon, guys. Thanks for taking the question. On the managed services and software and services revenue, Philip in the past you've talked about sort of $200 million annualized run rate with a target of $500 million longer term.

I'm wondering, if there is an update on timing around that $500 million and whether or not some of these impressive signings with Duquesne in Germany and in Tonga on the managed services front if there is upside to that sort of $200 million run rate we're seeing now and maybe the $500 million longer term target?.

Yeah. Andrew, it's very fair, our intent here, as we get this business really established in the way that we see it internally, that we would provide more visibility about the separate financial metrics of the software and services business.

It's both something that we are intend to manage aggressively and that we need to present to you more transparently in terms of how it affects our overall business.

To the question of the – do we see growth against that sort of $200 million baseline, it is, yes, it is growing as we are focusing more on providing the solutions up to and including managed services and even data services beyond that. So, we see the growth opportunity at being faster than overall total company revenue growth.

In terms of an update for that total targeted plan in the 2017, 2018 timeframe, we really see the opportunity to realize that growth target..

Great. That's very helpful. And on the Water segment you had the gross margin up, the operating margin down. Just curious with some of the investments you're making in that sector when we can expect to see some leverage there? Is it in the second half with margin recovery or is it a little bit more long dated? Thanks..

I'd say that's a bit more long dated that to get that straightened out. So those are, yes, slightly higher costs to go after some very desirable business.

By the way, we talked about this that that, Jordan Water and a number of these opportunities we're going after our solid-state water meters, I mean, communicating meters, where we've made investments in advanced technology that are really going to drive the business forward and revenues are as we've said are down slightly.

So, as we return to revenue growth in 2016 that operating leverage we think will straighten itself out..

And ladies and gentlemen, that does conclude our question-and-answer session. And I'd like to turn the call back over to Barbara Doyle for any additional or closing remarks..

I think we have provided all the answers to the questions everyone on the queue. So, we thank you for your participation today and we look forward to seeing you and speaking with you in the upcoming weeks. Thanks very much..

And ladies and gentlemen, there will be an audio replay of today's conference available this afternoon. You can access the audio replay by dialing 1-888-203-1112 or 1-719-457-0820 with the passcode of 5299205 or go to the company's website at www.itron.com. Again, that does conclude today's call. We do appreciate everyone's participation..