Itron’s Acquisition Spree… Will It Succeed?

June 2003

Itron has been on an acquisition spree but business research indicates that most mergers don’t add value. Why should Itron succeed where many have failed?

In October of 1998, the Wall Street Journal B8 published research findings that strongly indicate most mergers and acquisitions fail to increase shareholder value. According to AT Kearney who examined 115 mergers between 1993 and 1996, 58% of mergers and acquisitions failed. Similarly, 1997 results from Mercer Management Consultants indicate 48% failure rates.

Given this backdrop of evidence, a CEO and Board of Directors should be hesitant about embarking upon an acquisition spree. However, Itron’s CEO, LeRoy Nosbaum, has driven Itron to make four substantial acquisitions in the last year. Coupled with numerous new partnerships and product launches, we might question the ability of this company to manage all its activities.

Itron, (www.itron.com) founded in 1977, initially served utility companies with handheld computers for recording meter data. Since shipping its first system in 1980, Itron’s offering has expanded to include core products of advanced meter reading devices (AMR) and meter data management systems. Today, Itron has over 1400 employees and a market cap of $435 Million (June 6, 2003 reporting). AMR devices and meter data management systems provided the fuel for growth throughout the first two decades of Itron’s existence. Even today, Itron has yet to fully penetrate its core market. Only 14% of the 270 million electric, gas, and water meters in the US and Canada rely upon automated data collection and communication technologies. In this market, Itron’s chief competitor is Schlumberger Resource Management Service Division through Schlumberger’s acquisition of CellNet Data Systems in March 2000. Despite Schlumberger’s strength and size, Itron has a 55% market share in terms of AMR meter modules shipped. For Itron’s future, is capturing the remaining 86% of the potential market for AMR devices and meter data management systems a sufficiently large opportunity to maintain a competitive and profitable position? Apparently not to Mr. Nosbaum and his board. Strategic Change In 1999, Itron’s annual reports record a strategic change towards a focus on research and development and strategic partnerships to broaden their portfolio of offerings for their customers. By 2002, the executive mission had expanded to include a number of acquisitions. Itron announced their acquisition of Silicon Energy for$71.2 million on 4 March 2003, their acquisition of RER for $14 million and eMobile Data Corporation for$6.2 million on 1 September 2002, and their acquisition of LineSoft for $42 million on 13 March 2002. All totaled, this acquisition spree netted four significant companies in less than 12 months for a total cost of$133 million.

Perhaps the acquisition prices were cheep. For instance, twice prior Silicon Energy had attempted to go public with an initial IPO, but averted the effort citing poor market conditions. In 2001, Silicon Energy was to go public with an IPO market cap of $294 million. An acquisition at$71.2 million represents 75% discount on the prior valuation. However, for 2003 the acquired Silicon Energy is anticipated to contribute a mere $15 million to Itron’s revenues, or one fifth of its acquisition price. This indicates that the IPO valuation was greatly inflated and we should search for evidence that Itron’s acquisition strategy represents more than an opportunistic trade. With$285 million in revenues for year end 2002, \$133 million in acquisitions will have a significant impact on Itron. Can they manage to integrate the newly acquired companies within their operations? Will their acquisition strategy produce shareholder value above the acquisition price?

Improving the Value Offering

To understand the value of Itron’s acquisition spree, we have to look at issues beyond the typical issues of cost cutting, layoffs, and excess capacity and towards the value offering that Itron has created. Itron’s acquisition spree is fostered with a spirit of increasing the level of service to their market in conjunction with an efficient sales force to create customers and capture value. Each of Itron’s acquisitions and partnerships has focused on combining complementary components for delivering comprehensive energy and water management solutions. They have combined software for the enterprise wide management of a complex challenge.

The 2003 Itron investor presentation highlighted the strategic goal of “Optimizing the Delivery and Use of Energy and Water”. This implies providing electric, gas, and water utilities with the tools required for the design of transmission and distribution, field workforce management, consumption management and load optimization, and demand forecasting for scheduling and financial risk mitigation. Each of these functions has a direct relationship to meter data. Itron’s position as a leader in meter data management enabled them to take the hub position for integrating these core business functions within a single company’s offering.

To point to Itron’s success in integrating acquired businesses efficiently and managing the transformation, we only have to look at their product launches. (See Itron Announcements.) Reviewing their recent announcements, the August 2002 launch of Itron’s TL-PRO ™ Transmission Line Design Software is a direct result of their acquisition of LineSoft in March of the same year. Similarly, in February 2003 Itron launched Mobile Data Collection System presumably from the acquisition of eMobile Data six months prior.

The acquisitions and subsequent product launches indicate that Itron’s management was serious when they stated that they wanted to serve customers better. Within months of announcing the completion of a strategic acquisition, Itron launched new products and services to improve their value offering. The strategy of expanding the value offering doesn’t stop with acquisitions. Itron’s numerous partnerships with SmartSynch, ESRI, Olameter, and others have resulted in product enhancement, new product launches, and market expansions.

Some were redundancies created through the acquisitions. Itron’s acquisition of Silicon Energy resulted in an estimated 50 job losses. However, the focus of this acquisition as with others was not on cost reduction, but product expansion.

Why should we expect that product expansion within Itron would more efficiently capture value than that which would be accomplished with separate corporate entities? To answer this, we may want to look at the sales efficiency at Itron.

Potential Advantage in Sales

Itron has a well trained and comprehensive sales force. Built to drive sales of the AMR and meter data management for utilities within the US and Canada, Itron’s sales force has probably interacted with every utility within these borders. Utilizing this efficient sales channel to sell more than a single item or product category to utilities lowers the cost of sales through efficiencies in scope.

With regards to revenues, growth through acquisition and subsequent product expansion equips Itron with a highly effective mechanism. There are a limited number of utilities. Furthermore the market penetration rate for AMR and meter data management is limited by the utilities’ budgeting cycle and reluctance to adopt new technologies. Expanding revenues by expanding the number of products offered provides Itron with a method to grow its share of wallet within their existing customer base as well as provide appropriate offerings to new customers.

A comprehensive and competent sales force may not be sufficient to produce value in the recent Silicon Energy acquisition. The buying group for the Silicon Energy products is different from the buying group for Itron’s past products and services.

Historically, the Itron sales force has interacted with utility professionals responsible for meter management and distribution asset management. The buying group for their past products included electrical engineers, IT professionals, and upper management.

The products of Silicon Energy are sought by financial planners and demand load analyst within utilities. They are used to evaluate the opportunities for trading energy on the market, execute hedging strategies, and provide end-customers with real-time consumption data.

It is estimated that the overlap between the two buying groups is less than 10%. This implies that the sales force must greatly expand their network of relationships within the utility if they are to capture the new opportunities provided by the Silicon Energy acquisition.

As they expand into this new market, Itron will face heavy competition from a number of other industry players, including Henwood, ICF, LCG, and SAIC. Sales force breadth and effectiveness will be a major factor in this competition, but sales force strength alone may be insufficient to ensure success as they expand into the new buying group.

Back to R&D

The strategic value of Itron’s sales force is enhanced by Itron’s ability to integrate products across functional areas and produce higher value for their customers. Itron’s track record in acquiring new companies, integrating the technologies, and launching new or improved products provides promise with respect to the acquisition of Silicon Energy.

Despite the low level of overlap between buying groups for meter management and demand management, the demand management techniques used by Silicon Energy’s products rely upon the meter data managed by Itron’s historic products. Integrating these two products, or at least providing easy plug-and-play interfaces between them, improves the value proposition to the end customer.

Itron’s acquisition strategy relies upon two key ingredients: (1) The ability to integrate products related to energy management and improve the management of water and electricity utilization; (2) the ability to reach their market through a comprehensive and competitive sales force. Without both ingredients, their acquisition strategies may yield the standard result: negative returns.

Success by Strategy

Itron’s success in acquisitions, partnerships, and product launches is far from assured. However, judging from their recent track record, Itron should buck the trend of low returns by providing value to their customers and consequently to their shareholders. Their strategic strength derives from the coupling of an effective and efficient sales force with the integration of products that work together to provide greater value than point solutions alone.