BMI

Badger Meter, Inc. 10-Q Summary: Period Ended June 30, 2003

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended June 30, 2003, for Badger Meter, Inc., a Wisconsin corporation manufacturing water meters and industrial flow measurement products. The company is an accelerated filer with 3,257,866 shares of Common Stock outstanding as of July 25, 2003. The financial statements are unaudited but include all normal recurring accruals.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 9.0% ($3.9 million) for the quarter and 7.5% ($6.1 million) for the six months compared to 2002. This growth was primarily driven by the inclusion of acquired businesses (Data Industrial Corporation and MecaPlus Equipements SA). Excluding acquisitions, organic sales increased only 1.0% for the quarter but decreased 3.7% for the six months due to a soft economy and reduced residential/commercial water meter volumes.
• Profitability: Net earnings rose 12.3% for the quarter ($2.6 million vs. $2.3 million) but declined 15.7% for the six months ($3.3 million vs. $3.9 million). Gross margins compressed slightly (33.7% vs. 34.0% for the quarter) due to lower volumes impacting overhead absorption.
• Other Income: Other income, net, surged by $1.1 million for both periods, largely due to favorable foreign exchange gains ($0.8 million and $0.9 million respectively) from the strengthening Euro and a $0.2 million gain from the sale of stock related to an insurance company conversion.
• Liquidity: Cash flow from operations turned negative ($0.1 million used) for the six months, driven by a $6.4 million increase in receivables and a $3.8 million increase in inventories. Short-term debt increased by $8.4 million to fund operations and capital expenditures.

Outlook, Risks, and Unusual Items

• Management Commentary: Management attributes the decline in organic sales to a soft economy, geopolitical concerns, and reduced municipal budgets. They note that residential sales of Automated Meter Reading (AMR) products are growing, offsetting declines in manual read meters.
• Unusual Items: A manufacturing problem in the first quarter resulted in an after-tax expense of approximately $150,000. Additionally, the company finalized purchase price allocations for 2002 acquisitions, increasing goodwill by $1.0 million due to severance costs and currency adjustments.
• Restructuring: The company decided to move production of non-magnetic impeller flow sensors from Massachusetts to Oklahoma. Estimated costs of $217,000 (severance and leasehold disposal) will be recognized over the remainder of 2003.
• Risks and Contingencies: The company faces environmental contingencies regarding a landfill site (provision made) and is a defendant in five multi-party asbestos suits. Management does not believe these will have a material adverse effect. Market risks include currency fluctuations and changes in housing starts.

Investor Verification Checklist

• Organic Growth: Verify the sustainability of sales growth excluding the impact of 2002 acquisitions, given the reported 3.7% organic decline for the six-month period.
• Working Capital: Monitor the significant increase in receivables ($6.4 million) and inventories ($3.8 million) to ensure they do not signal collection issues or overstocking.
• Debt Levels: Review the increase in short-term debt to $28.7 million against the company's $44.5 million credit facility to assess liquidity headroom.
• Foreign Exchange: Assess the reliance on favorable Euro exchange rates for the "Other income" boost, as currency volatility could reverse this benefit.
• Restructuring Costs: Track the recognition of the $217,000 in exit costs associated with the facility move in the third and fourth quarters.