UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended SEPTEMBER 30, 2005 BADGER METER, INC. 4545 W. BROWN DEER ROAD MILWAUKEE, WISCONSIN 53223 (414) 355-0400 A Wisconsin Corporation IRS Employer Identification No. 39-0143280 Commission File No. 1-6706 The company has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and has been subject to such filing requirements for the past 90 days. The company is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). The company is not a shell company (as defined in Rule 12b-2 of the Exchange Act). Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [ ] As of October 12, 2005, there were 6,836,085 shares of Common Stock outstanding with a par value of $1.00 per share.
BADGER METER, INC. QUARTERLY REPORT ON FORM 10-Q FOR PERIOD ENDED SEPTEMBER 30, 2005 INDEX <TABLE> <CAPTION> Page No. -------- <S> <C> Part I. Financial Information: Item 1 Financial Statements: Consolidated Condensed Balance Sheets - - September 30, 2005 and December 31, 2004 4 Consolidated Condensed Statements of Operations - - Three and Nine Months Ended September 30, 2005 and 2004 5 Consolidated Condensed Statements of Cash Flows - - Nine Months Ended September 30, 2005 and 2004 6 Notes to Unaudited Consolidated Condensed Financial Statements 7 Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations 11 Item 3 Quantitative and Qualitative Disclosures about Market Risk 14 Item 4 Controls and Procedures 14 Part II. Other Information: Item 2 Unregistered Sales of Equity Securities and Use of Proceeds 14 Item 6 Exhibits 15 Signatures 16 Exhibit Index 17 </TABLE> 2
SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS Certain statements contained in this Form 10-Q, as well as other information provided from time to time by Badger Meter, Inc. (the "Company") or its employees, may contain forward looking statements that involve risks and uncertainties that could cause actual results to differ materially from those in the forward looking statements. The words "anticipate," "believe," "estimate," "expect," "think," "should" and "objective" or similar expressions are intended to identify forward looking statements. All such forward looking statements are based on the Company's then current views and assumptions and involve risks and uncertainties that include, among other things: - the continued shift in the Company's business from lower cost, local-read meters toward more expensive, value-added automatic meter reading (AMR) systems; - the success or failure of newer Company products, including the Orion(R) radio frequency mobile AMR system, the absolute digital encoder (ADE(TM)) and the Galaxy(TM) fixed network AMR system; - changes in competitive pricing and bids in both the domestic and foreign marketplaces, and particularly in continued intense price competition on government bid contracts for lower cost, local read meters; - the actions (or lack thereof) of the Company's competitors; - the Company's relationships with its alliance partners, particularly its alliance partners that provide AMR connectivity solutions; - the general health of the United States and foreign economies, including housing starts in the United States and overall industrial activity; - increases in the cost and/or availability of needed raw materials and parts; - changes in foreign economic conditions, particularly currency fluctuations between the United States dollar and the euro; and - changes in laws and regulations, particularly laws dealing with the use of lead (which can be used in the manufacture of certain meters incorporating brass housings) and Federal Communications Commission rules affecting the use and/or licensing of radio frequencies necessary for AMR products. All of these factors are beyond the Company's control to varying degrees. Shareholders, potential investors and other readers are urged to consider these factors carefully in evaluating the forward looking statements and are cautioned not to place undue reliance on such forward looking statements. The forward looking statements made in this document are made only as of the date of this document and the Company assumes no obligation, and disclaims any obligation, to update any such forward looking statements to reflect subsequent events or circumstances. 3
PART I - FINANCIAL INFORMATION ITEM 1 FINANCIAL STATEMENTS BADGER METER, INC. CONSOLIDATED CONDENSED BALANCE SHEETS <TABLE> <CAPTION> September 30, December 31, 2005 2004 ---- ---- (Unaudited) (In thousands) <S> <C> <C> ASSETS Current assets: Cash $ 3,079 $ 2,834 Receivables 33,974 26,879 Inventories: Finished goods 12,559 14,121 Work in process 9,148 9,054 Raw materials 11,249 12,471 ------------- ------------ Total inventories 32,956 35,646 Prepaid expenses 2,485 2,016 Deferred income taxes 3,962 4,007 ------------- ------------ Total current assets 76,456 71,382 Property, plant and equipment, at cost 108,269 107,295 Less accumulated depreciation (66,427) (65,279) ------------- ------------ Net property, plant and equipment 41,842 42,016 Intangible assets, at cost less accumulated amortization 1,081 1,160 Prepaid pension 18,117 17,290 Other assets 4,128 4,009 Goodwill 6,638 7,104 ------------- ------------ Total assets $ 148,262 $ 142,961 ============= ============ LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Short-term debt $ 9,200 $ 17,539 Current portion of long-term debt 7,340 5,348 Payables 14,316 11,395 Accrued compensation and employee benefits 6,053 6,166 Warranty and after-sale costs 3,656 3,817 Income and other taxes 2,482 982 ------------- ------------ Total current liabilities 43,047 45,247 Deferred income taxes 7,409 7,437 Accrued non-pension postretirement benefits 4,105 4,490 Other accrued employee benefits 6,626 6,902 Long-term debt 15,937 14,819 Commitments and contingencies Shareholders' equity: Common stock 10,038 9,872 Capital in excess of par value 21,400 18,313 Reinvested earnings 73,555 64,928 Accumulated other comprehensive income 193 2,024 Less: Employee benefit stock (1,404) (1,065) Treasury stock, at cost (32,644) (30,006) ------------- ------------ Total shareholders' equity 71,138 64,066 ------------- ------------ Total liabilities and shareholders' equity $ 148,262 $ 142,961 ============= ============ </TABLE> See accompanying notes to consolidated condensed financial statements. 4
BADGER METER, INC. CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS <TABLE> <CAPTION> Three Months Ended Nine Months Ended September 30, September 30, ------------ ------------- (Unaudited) (Unaudited) (In thousands except share and per share amounts) 2005 2004 2005 2004 ---- ---- ---- ---- <S> <C> <C> <C> <C> Net sales $ 54,194 $ 53,340 $ 166,058 $ 156,492 Cost of sales . 35,627 35,437 108,430 104,982 ----------- ---------- ----------- ---------- Gross margin 18,567 17,903 57,628 51,510 Selling, engineering and administration 12,228 11,323 37,592 34,965 ----------- ---------- ----------- ---------- Operating earnings 6,339 6,580 20,036 16,545 Interest expense 402 406 1,177 1,288 Other expense (income), net (159) 114 (447) 314 ----------- ---------- ----------- ---------- Earnings before income taxes 6,096 6,060 19,306 14,943 Provision for income taxes 2,285 2,671 7,780 6,127 ----------- ---------- ----------- ---------- Net earnings $ 3,811 $ 3,389 $ 11,526 $ 8,816 =========== ========== =========== ========== Per share amounts: Earnings per share: Basic $ .56 $ .51 $ 1.71 $ 1.34 Diluted $ .54 $ .50 $ 1.65 $ 1.30 Dividends declared: $ .15 $ .14 $ .43 $ .41 Shares used in computation of earnings per share: Basic 6,761,072 6,613,266 6,729,402 6,580,054 Impact of stock-based compensation 336,187 244,012 274,812 197,833 ----------- ---------- ----------- ---------- Diluted 7,097,259 6,857,278 7,004,214 6,777,887 =========== ========== =========== ========== </TABLE> See accompanying notes to consolidated condensed financial statements. 5
BADGER METER, INC. CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS <TABLE> <CAPTION> Nine Months Ended September 30, --------------------- (Unaudited) (In thousands) 2005 2004 -------- --------- <S> <C> <C> Operating activities: Net earnings $ 11,526 $ 8,816 Adjustments to reconcile net earnings to net cash provided by (used for) operations: Depreciation 4,983 5,348 Amortization 147 114 Tax benefit on stock options 1,302 374 Deferred income taxes (25) 41 Noncurrent employee benefits 2,675 2,060 Contribution to pension plan (2,000) (2,000) Changes in: Receivables (7,826) (4,838) Inventories 1,802 (2,622) Prepaid expenses (513) (474) Current liabilities other than debt 1,604 (2,039) -------- --------- Total adjustments 2,149 (4,036) -------- --------- Net cash provided by operations 13,675 4,780 -------- --------- Investing activities: Property, plant and equipment (5,799) (4,012) Other - net (292) (85) --------- --------- Net cash used for investing activities (6,091) (4,097) --------- --------- Financing activities: Net increase (decrease) in short-term debt (7,917) 5,180 Issuance of long-term debt 10,000 - Repayments of long-term debt (6,890) (4,384) Dividends paid (2,899) (2,701) Proceeds from exercise of stock options 2,164 1,304 Treasury stock purchases (2,958) (915) Issuance of treasury stock 840 491 -------- --------- Net cash used for financing activities (7,660) (1,025) --------- --------- Effect of foreign exchange rates on cash 321 268 -------- --------- Increase (decrease) in cash 245 (74) Cash - beginning of period 2,834 2,089 -------- --------- Cash - end of period $ 3,079 $ 2,015 ======== ========= </TABLE> See accompanying notes to consolidated condensed financial statements. 6
BADGER METER, INC. NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS 1. In the opinion of management, the accompanying unaudited consolidated condensed financial statements of Badger Meter, Inc. (the "Company") contain all adjustments (consisting only of normal recurring accruals) necessary to present fairly the Company's consolidated condensed financial position at September 30, 2005, results of operations for the three- and nine-month periods ended September 30, 2005 and 2004, and cash flows for the nine-month periods ended September 30, 2005 and 2004. The results of operations for any interim period are not necessarily indicative of the results to be expected for the full year. The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Certain reclassifications have been made to the 2004 consolidated condensed financial statements to conform to the 2005 presentation. 2. The consolidated condensed balance sheet at December 31, 2004 was derived from amounts included in the Company's Annual Report on Form 10-K for the year ended December 31, 2004. Refer to the footnotes to the financial statements included in that report for a description of the Company's accounting policies, which have been continued without change, and additional details of the Company's financial condition. The details in those notes have not changed except as discussed below and as a result of normal adjustments in the interim. GOODWILL Goodwill decreased from $7,104,000 at December 31, 2004 to $6,638,000 at September 30, 2005 as a result of translation adjustments for goodwill denominated in foreign currencies. WARRANTY AND AFTER-SALE COSTS The Company estimates and records provisions for warranties and other after-sale costs in the period the sale is reported. After-sale costs represent a variety of activities outside of the written warranty policy, such as investigation of unanticipated problems after the customer has installed the product, or analysis of water quality issues. Changes in the Company's warranty and after-sale costs reserve for the nine-month periods ended September 30, 2005 and 2004 are as follows: <TABLE> <CAPTION> Balance at Additions Balance beginning charged to Costs at (In thousands) of year earnings incurred September 30 - -------------- ---------- ---------- --------- ------------- <S> <C> <C> <C> <C> 2005 $3,817 $1,182 $(1,343) $3,656 2004 $3,767 $1,186 $(1,065) $3,888 </TABLE> STOCK-BASED COMPENSATION PLANS The Company has six stock option plans which provide for the issuance of options to key employees and directors of the Company. Each plan authorizes the issuance of options to purchase up to an aggregate of 400,000 shares of Common Stock, with vesting periods of up to ten years and maximum option terms of ten years. As of September 30, 2005, options to purchase 287,148 shares remain available for grant under four of these plans. On April 29, 2005, a restricted stock plan was approved which provided for the issuance of non-vested Common Stock to certain eligible employees. The plan authorizes the issuance of shares up to an aggregate of 50,000 shares of Common Stock, of which a net of 15,500 were issued in the second quarter of 2005. This issue has a three-year cliff vesting period contingent on employment. Compensation expense related to this issuance was $79,500 for the nine-month period ending September 30, 2005. As allowed by Financial Accounting Standards Board (FASB) Statement No. 123 (SFAS 123), "Accounting for Stock-Based Compensation," and Statement No. 148 (SFAS 148), "Accounting for Stock-Based Compensation - Transition and Disclosure," the Company has elected to follow Accounting Principles Board Opinion No. 25 (APB 25), "Accounting for Stock Issued to Employees," in accounting for its stock option plans. Under APB 25, the Company does not recognize compensation expense upon the issuance of its stock options because the option terms are fixed and the exercise price equals the market price of the underlying stock on the grant date. 7
The following table illustrates the effect on net earnings and earnings per share if the Company had applied the fair value recognition provisions of SFAS 123 to stock-based employee compensation. These pro forma calculations only include the effects of stock-based compensation granted since January 1, 1995. As such, the impacts are not necessarily indicative of the effects on net earnings of future years. <TABLE> <CAPTION> Three months Nine months ended September 30, ended September 30, --------------------- -------------------- (In thousands except per share amounts) 2005 2004 2005 2004 - --------------------------------------------- -------- -------- -------- -------- <S> <C> <C> <C> <C> Net earnings, as reported $ 3,811 $ 3,389 $ 11,526 $ 8,816 Deduct: Incremental stock-based compensation determined under fair value based method for all awards since January 1, 1995, net of related tax effects 78 88 216 283 -------- -------- -------- -------- Pro forma net earnings $ 3,733 $ 3,301 $ 11,310 $ 8,533 ======== ======== ======== ======== Earnings per share: Basic, as reported $ .56 $ .51 $ 1.71 $ 1.34 Basic, pro forma $ .55 $ .50 $ 1.68 $ 1.30 Diluted, as reported $ .54 $ .50 $ 1.65 $ 1.30 Diluted, pro forma $ .52 $ .48 $ 1.61 $ 1.24 </TABLE> In December 2004, the FASB issued Statement No. 123(R) (SFAS 123(R)), "Share-Based Payment," which changed the accounting rules relating to equity compensation programs. On April 15, 2005, the Securities and Exchange Commission provided a phased-in implementation process for SFAS 123(R), which will now be effective for the Company on January 1, 2006. Refer to the Notes to Consolidated Financial Statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 2004 for additional information regarding SFAS 123(R) and the anticipated impact of adoption. 3. Included in other expense (income), net are foreign currency gains and losses, which are recognized as incurred. The Company's functional currency for all of its foreign subsidiaries is the U.S. dollar, with the exception of Badger Meter France (the French parent holding company of MecaPlus Equipements SAS (MPE)), MPE and Badger Meter Czech Republic, whose functional currency are the euro. A foreign currency gain of $456,000 and a loss of $(152,000) were reported for the nine months ended September 30, 2005 and 2004, respectively, primarily related to the recent strengthening of the U.S. dollar versus the euro. 4. The Company maintains a non-contributory defined benefit pension plan for its domestic employees and a non-contributory postretirement plan that provides medical benefits for certain domestic retirees and eligible dependents. The following table sets forth the components of net periodic benefit cost for the three months ended September 30, 2005 and 2004 based on a September 30 measurement date: <TABLE> <CAPTION> Other postretirement Pension benefits benefits --------------------- ------------------ (In thousands) 2005 2004 2005 2004 - -------------- ------- -------- ------- ------- <S> <C> <C> <C> <C> Service cost $ 457 $ 406 $ 49 $ 41 Interest cost 625 628 77 119 Expected return on plan assets (910) (928) - - Amortization of prior service cost (29) (34) (40) (43) Amortization of net loss 248 164 57 38 ------- -------- ------- ------- Net periodic benefit cost $ 391 $ 236 $ 143 $ 155 ======= ======== ======= ======= </TABLE> 8
The following table sets forth the components of net periodic benefit cost for the nine months ended September 30, 2005 and 2004 based on a September 30 measurement date: <TABLE> <CAPTION> Other postretirement Pension benefits benefits --------------------- -------------------- (In thousands) 2005 2004 2005 2004 - -------------- -------- -------- -------- -------- <S> <C> <C> <C> <C> Service cost $ 1,371 $ 1,219 $ 137 $ 125 Interest cost 1,875 1,883 327 356 Expected return on plan assets (2,730) (2,783) - - Amortization of prior service cost (87) (102) (130) (130) Amortization of net loss 744 492 137 115 -------- -------- -------- -------- Net periodic benefit cost $ 1,173 $ 709 $ 471 $ 466 ======== ======== ======== ======== </TABLE> The Company previously disclosed in its financial statements for the year ended December 31, 2004 that it did not expect to contribute funds to its pension plan in 2005. As the expected return on assets and increased interest rates did not materialize in the third quarter of 2005, the Company elected to make a $2 million contribution to fully fund the plan at September 30, 2005, which is the plan's measurement date. The Company also disclosed in its financial statements for the year ended December 31, 2004 that it estimated it would pay $688,000 in other postretirement benefits in 2005. As of September 30, 2005, $856,000 of such benefits were paid. While it is difficult to estimate future payments, the Company estimates at September 30, 2005 that payments for the full year may be closer to $1,140,000. Note that the amount of benefits paid in calendar year 2005 will not impact the expense for postretirement benefits for the current year. 5. The Company guarantees the debt of the Badger Meter Officers' Voting Trust (BMOVT), from which the BMOVT obtained loans from a bank on behalf of the officers of the Company in order to purchase shares of the Company's Common Stock. The officers' loan amounts are collateralized by the Company's shares that were purchased with the loans' proceeds. There have been no loans made to officers by the BMOVT since July 2002. The Company has guaranteed $1,096,000 and $1,593,000 of the BMOVT's debt at September 30, 2005 and December 31, 2004, respectively. The current loan matures in April 2006, at which time it is expected to be renewed. The fair market value of this guarantee at September 30, 2005 continues to be insignificant because the collateral value of the shares exceeds the loan amount. The Company guarantees the outstanding debt of the Badger Meter Employee Savings and Stock Ownership Plan that is recorded in long-term debt, offset by a similar amount of unearned compensation that has been recorded as a reduction of shareholders' equity. The loan amount is collateralized by shares of the Company's Common Stock. A payment of $150,000 in the first quarter of 2005 reduced the loan from $1,065,000 at December 31, 2004 to $915,000 at September 30, 2005. 6. Total comprehensive income was $3,641,000 and $3,486,000 for the three-month periods ended September 30, 2005 and 2004, respectively. Included in the three-month periods ended September 30, 2005 and 2004 was $170,000 of loss and $97,000 of income, respectively, of other comprehensive items related to foreign currency translation adjustments. Total comprehensive income was $9,696,000 and $8,686,000 for the nine-month periods ended September 30, 2005 and 2004, respectively. Included in the nine-month periods ended September 30, 2005 and 2004 was $1,830,000 and $130,000 of other comprehensive loss, respectively, related to foreign currency translation adjustments. 7. In the normal course of business, the Company is named in legal proceedings from time to time. There are currently no material legal proceedings pending with respect to the Company. The more significant legal proceedings are as follows. The Company is subject to contingencies relating to environmental laws and regulations. Currently, the Company is in the process of resolving matters relating to two landfill sites. Provision has been made for all known settlement costs, which are not material. The Company is also a defendant in numerous multi-party asbestos lawsuits pending in various states. These lawsuits assert claims alleging that certain industrial products were manufactured by the defendants and were the cause of injury and harm. The Company is vigorously defending itself against these alleged claims. Although it is not possible to predict the ultimate outcome of these matters, the Company does not believe the ultimate resolution of these issues will have a material adverse effect on the Company's financial 9
position or results of operations, either from a cash flow perspective or on the financial statements as a whole. The Company has evaluated its worldwide operations to determine whether any risks and uncertainties exist that could severely impact its operations in the near term. The Company does not believe that there are any significant risks. However, the Company does rely on single suppliers for certain castings and components in several of its product lines. Although alternate sources of supply exist for these items, loss of certain suppliers could temporarily disrupt operations in the short term. The Company attempts to mitigate these risks by working closely with key suppliers, purchasing minimal amounts from alternative suppliers and by purchasing business interruption insurance where appropriate. The Company reevaluates its exposures on a periodic basis and makes adjustments to reserves as appropriate. 10
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS BUSINESS DESCRIPTION AND OVERVIEW Badger Meter, Inc. (the "Company") is a leading marketer and manufacturer of products using flow measurement and control technologies developed both internally and with other technology companies. Its products are used to measure and control the flow of liquids in a variety of applications. The Company's product lines fall into two general categories, utility and industrial. Two product lines, residential and commercial water meters (with various meter reading technology systems), are generally sold to water utilities and constitute a majority of the Company's sales. Industrial product line sales comprise the remainder of the Company's sales and include automotive fluid meters and systems, small precision valves, electromagnetic meters, impeller flow meters and industrial process meters (all with related accessories and instrumentation). Residential and commercial water meters and related systems are classified as local (or manual) read meters or automatic meter reading (AMR) products. Local read meters consist of a water meter and a register. With AMR meters, the register digitally encodes the mechanical reading and its radio frequency transmitter communicates the data to a computerized system that collects the data and sends it to specific utility computerized programs. Net sales and the corresponding net earnings depend on unit volume and mix of products, with the Company generally earning higher margins on AMR products. The Company sells AMR products of other companies as well as its own proprietary product, Orion(R), which has higher margins than the other AMR products. There is a base level of annual business for these products driven by replacement units and, to a lesser extent, housing starts. Sales above the base level depend on conversions to AMR. The Company believes that conversion from local read meters to AMR products can accelerate replacements of meters and result in growth, because it is estimated that only 15% of the water meter market has been converted to AMR. Badger Meter's strategy is to solve customers' metering needs with its proprietary meter reading systems or other systems available through alliances within the marketplace. The industrial products generally serve niche markets and have in the past utilized technology derived from utility products to serve industrial uses. As these markets evolve, these products are becoming more specialized to meet industrial flow measurement and communication protocol requirements. Serving these markets allows the Company to expand its technologies into other areas of flow measurement and control, as well as utilize existing capacity and spread fixed costs over a larger sales base. RESULTS OF OPERATIONS - THREE MONTHS ENDED SEPTEMBER 30, 2005 Net sales for the three-month period ended September 30, 2005 increased $0.9 million, or 1.6%, over the same period in 2004. Residential and commercial water meter sales represented 75.2% of total sales in the third quarter of 2005 compared to 76.3% in the third quarter of 2004. Sales for these products were nearly equal to the sales in the same period in 2004 and were the net effect of slightly higher AMR sales, lower volumes of local read meters and higher volumes of commercial meters. Units utilizing AMR technologies carry higher prices. Most notable in the increased sales of AMR products was the increase in sales of the Company's proprietary AMR product, Orion(R), which increased nearly 70% in the third quarter of 2005 over the same period in 2004, while other AMR products had declining sales growth. Industrial sales are affected by economic conditions, domestically and internationally, in each of the markets served by the various product lines. In total, industrial products represented 24.8% of total sales for the three months ended September 30, 2005 compared to 23.7% for the same period in 2004. The change was due to a higher percentage increase in industrial sales compared to utility sales. Industrial sales increased $0.8 million to $13.4 million in the third quarter of 2005 compared to $12.6 million in the third quarter of 2004. This was the net effect of increases in sales of small precision valves, industrial process meters, impeller meters and electromagnetic meters, offset somewhat by declines in automotive fluid meters and systems. Gross margins for the third quarter of 2005 were 34.3% compared to 33.6% in the third quarter of 2004. The increase was due to the higher mix of AMR products, particularly the Orion(R) product which carries higher margins, price increases instituted on select products, and the effects of a slightly weaker euro on foreign sourced parts. These factors were offset somewhat by continuing price pressures due to competition. Selling, engineering and administration costs in the third quarter of 2005 were $0.9 million, or 8.0%, higher than the same period in 2004 due to higher research and development costs, increased costs associated with increased sales, one time expenses associated with the Company's 100th anniversary celebration and normal inflationary pressures, offset somewhat by continuing cost control efforts. 11
Interest expense for the third quarter of 2005 was $4,000 lower than the same period in the prior year primarily due to lower debt balances offset somewhat by higher interest rates. Other expense (income), net changed by $273,000 primarily due to foreign translation gains. The effective tax rate for the third quarter of 2005 was 37.5% compared to 44.1% due principally to a reduced impact of the valuation reserve for the operating loss of the Company's French subsidiary offset by higher Federal and state tax rates. As a result of the above-mentioned items, net earnings for the third quarter of 2005 were $3.8 million compared to net earnings in the third quarter of 2004 of $3.4 million. On a diluted earnings per share basis, this equated to $0.54 per share for the third quarter of 2005 compared to $0.50 for the same period in 2004. RESULTS OF OPERATIONS - NINE MONTHS ENDED SEPTEMBER 30, 2005 Net sales for the nine-month period ended September 30, 2005 increased $9.6 million, or 6.1%, over the same period in 2004. Residential and commercial water meter sales represented 74.4% of total sales in the first nine months of 2005 compared to 73.9% for the same period in 2004. These sales increased $8.0 million to $123.6 million compared to $115.6 million in the same period in 2004. These increases were driven by higher sales of AMR products offset by lower revenues of local (or manual) read water meter units due to pricing pressures. Units utilizing AMR technologies carry higher prices. Most notable in the increased sales of AMR products was the increase in sales of the Company's proprietary AMR product, Orion(R), which increased nearly 125% over the amount sold in the first nine months of 2004. This was mitigated somewhat by sales decreases in other AMR products. Industrial sales are affected by economic conditions, domestically and internationally, in each of the markets served by the various product lines. In total, industrial products represented 25.6% of total sales for the nine months ended September 30, 2005 compared to 26.1% for the same period in 2004. The change was due to a higher percentage increase in water meter sales compared to industrial product sales. Industrial sales increased $1.6 million to $42.4 million in the first nine months 2005 compared to $40.8 million for the same period in 2004. This was the net effect of increases in sales of small precision valves, electromagnetic meters, and concrete and impeller meters offset somewhat by declines in automotive fluid meters and systems. Gross margins for the nine months ended September 30, 2005 were 34.7% compared to 32.9% for the same period in 2004. The increase was due to the higher mix of AMR products, particularly the Orion(R) product which carries higher margins, price increases instituted on select products, and the effects of a slightly weaker euro on foreign sourced parts. These factors were offset somewhat by continuing price pressures due to competition. Selling, engineering and administration costs for the nine months ended September 30, 2005 were $2.6 million, or 7.5%, higher than the same period in 2004 due to higher research and development costs, increased costs associated with increased sales, one time expenses associated with the Company's 100th anniversary celebration and normal inflationary pressures, offset somewhat by continuing cost control efforts. Interest expense for the nine months ended September 30, 2005 was $111,000 lower than the same period in the prior year primarily due to lower debt balances offset somewhat by higher interest rates. Other expense (income), net changed nearly $0.8 million between periods primarily due to the favorable effects of foreign currency translations. The effective tax rate for the first nine months 2005 was 40.3% compared to 41.0% due principally to a reduced impact of the valuation reserve for the operating loss of the Company's French subsidiary offset by higher Federal and state tax rates. As a result of the above-mentioned items, net earnings for the nine months ended September 30, 2005 were $11.5 million compared to net earnings in the same period of 2004 of $8.8 million. On a diluted earnings per share basis, this equated to $1.65 per share for the first nine months of 2005 compared to $1.30 for the same period in 2004. LIQUIDITY AND CAPITAL RESOURCES The main sources of liquidity for the Company typically are cash from operations and borrowing capacity. For the first nine months of 2005, $13.7 million of cash was provided by operations, primarily as the net result of increased earnings adjusted for depreciation and amortization and decreased inventory levels offset by increases in receivables. 12
The change in the receivables balance from $26.9 million at December 31, 2004 to $34.0 million at September 30, 2005 was primarily due to increased sales and the timing of certain customer payments, offset by the strengthening of the U.S. dollar against the euro. Inventories at September 30, 2005 have declined $2.6 million to $33.0 million from the December 31, 2004 balance of $35.6 million due primarily to higher sales in the nine months ended September 30, 2005 and the effects of a strengthening U.S. dollar. Net property, plant and equipment decreased $174,000 since December 31, 2005. This is the net result of $5.8 million of capital expenditures and $5.0 million of depreciation expense. Short-term debt and the current portion of long-term debt at September 30, 2005 decreased $6.4 million to a combined $16.5 million versus a balance at the end of 2004 of $22.9 million. This decrease was primarily due to securing a $10 million term loan in the second quarter of 2005, which was used to replace short-term borrowings. As a result, long-term debt increased net of regularly scheduled debt payments. Payables increased to $14.3 million at September 30, 2005 from $11.4 million at December 31, 2004 primarily as a result of the timing of payments. Income and other taxes payable increased to $2.5 million at September 30, 2005 from $1.0 million at December 31, 2004 as a result of the timing of tax payments. Common stock and capital in excess of par value have increased from December 31, 2004 due to new shares issued in connection with the exercise of stock options and purchases by the Employee Savings and Stock Ownership Plan (ESSOP). Treasury stock increased due to shares repurchased during the period. See Part II, Item 2 "Unregistered Sales of Equity Securities and Use of Proceeds" of this Form 10-Q for more information regarding the Company's share repurchases in the third quarter. Employee benefit stock increased due to a restricted stock plan implemented in the second quarter of 2005, offset by a $150,000 reduction due to shares released as a result of a payment made on the ESSOP loan during the first quarter of 2005. Badger Meter's financial condition remains strong. The Company believes that its operating cash flows, available borrowing capacity, including $36.8 million of unused credit lines, and its ability to raise additional capital provide adequate resources to fund ongoing operating requirements, future capital requirements and the development of new products. OTHER MATTERS There are currently no material legal proceedings pending with respect to the Company. The more significant legal proceedings are as follows. The Company is subject to contingencies relative to environmental laws and regulations. Currently, the Company is in the process of resolving matters relative to two landfill sites. Provision has been made for all known settlement costs, which are not material. The Company is also a defendant in numerous multi-party asbestos lawsuits pending in various states. These lawsuits assert claims alleging that certain industrial products were manufactured by the defendants and were the cause of injury and harm. The Company is vigorously defending itself against these alleged claims. Although it is not possible to predict the ultimate outcome of these matters, the Company does not believe the ultimate resolution of these issues will have a material adverse effect on the Company's financial position or results of operations, either from a cash flow perspective or on the financial statements as a whole. No other risks or uncertainties were identified that could have a material impact on operations and no long-lived assets have become permanently impaired in value. OFF-BALANCE SHEET ARRANGEMENTS AND CONTRACTUAL OBLIGATIONS The Company's off-balance sheet arrangements and contractual obligations are discussed in Part II Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations" under the headings "Off-Balance Sheet Arrangements" and "Contractual Obligations" in the Company's Annual Report on Form 10-K for the year ended December 31, 2004, and have not materially changed since that report was filed. 13
ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's quantitative and qualitative disclosures about market risk are included in Part II Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations" under the heading "Market Risks" in the Company's Annual Report on Form 10-K for the year ended December 31, 2004, and have not materially changed since that report was filed. ITEM 4 CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures In accordance with Rule 13a-15(b) of the Securities Exchange Act of 1934 (the "Exchange Act"), the Company's management evaluated, with the participation of the Company's Chairman, President and Chief Executive Officer and the Company's Senior Vice President - Finance, Chief Financial Officer and Treasurer, the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act) as of the end of the quarter ended September 30, 2005. Based upon their evaluation of these disclosure controls and procedures, the Company's Chairman, President and Chief Executive Officer and the Company's Senior Vice President - Finance, Chief Financial Officer and Treasurer concluded that the Company's disclosure controls and procedures were effective as of the end of the quarter ended September 30, 2005 to ensure that material information relating to the Company, including its consolidated subsidiaries, was made known to them by others within those entities, particularly during the period in which this Quarterly Report on Form 10-Q was being prepared. Changes in Internal Control over Financial Reporting There was no change in the Company's internal control over financial reporting that occurred during the quarter ended September 30, 2005 that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. PART II - OTHER INFORMATION ITEM 2 UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS The Company has undertaken stock repurchases from time to time to offset dilution created by shares issued for stock options and other corporate purposes, as well as to repurchase shares when market conditions are favorable. For the quarter ended September 30, 2005, the Company repurchased 29,034 shares of Common Stock for $1,304,000. As of the end of the third quarter of 2005, the Company has remaining availability to repurchase up to an additional 390,802 shares of Common Stock (which were valued at $15.4 million at the September 30, 2005 closing price of $39.34 per share) pursuant to the Board of Directors' authorizations. The purchase of Common Stock is at the Company's discretion, subject to prevailing financial and market conditions. The following chart discloses information regarding the shares of the Company's Common Stock repurchased during the quarter ended September 30, 2005, all of which were purchased pursuant to the Board of Directors' authorizations: 14
<TABLE> <CAPTION> TOTAL NUMBER OF MAXIMUM NUMBER SHARES PURCHASED OF SHARES THAT MAY AS PART OF PUBLICLY YET BE PURCHASED TOTAL NUMBER OF AVERAGE PRICE PAID ANNOUNCED PLANS OR UNDER THE PLANS OR PERIOD SHARES PURCHASED PER SHARE PROGRAMS (1) PROGRAMS (1) - --------------------------- ---------------- ------------------ ------------------- ------------------ <S> <C> <C> <C> <C> July 1 to July 31 17,267 $45.56 17,267 402,569 August 1 to August 31 11,093 $44.29 11,093 391,476 September 1 to September 30 674 $39.40 674 390,802 ------ ------ ------ ------- Total/Average 29,034 $44.93 29,034 390,802 ====== ====== ====== ======= </TABLE> (1) On December 4, 2000, the Board of Directors authorized the repurchase of up to 1,200,000 shares of Badger Meter, Inc. Common Stock over a three-year period. The Company publicly announced the stock repurchase plan in a press release issued on December 4, 2000. At November 14, 2003, the Company had repurchased a total of 641,890 shares. The Board authorized a two-year extension of the repurchase plan, effective December 1, 2003, allowing the Company to repurchase up to the remaining 558,110 shares prior to December 1, 2005. The Company publicly announced the extension of the stock repurchase plan in a press release issued on November 14, 2003. ITEM 6 EXHIBITS <TABLE> <CAPTION> EXHIBIT NO. DESCRIPTION <S> <C> 31.1 Certification by the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification by the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32 Certification of Periodic Financial Report by the Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. </TABLE> 15
SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. BADGER METER, INC. Dated: October 26, 2005 By /s/ Richard A. Meeusen ----------------------- Richard A. Meeusen Chairman, President and Chief Executive Officer By /s/ Richard E. Johnson ----------------------- Richard E. Johnson Senior Vice President - Finance, Chief Financial Officer and Treasurer By /s/ Beverly L.P. Smiley ------------------------ Beverly L.P. Smiley Vice President - Controller 16
BADGER METER, INC. QUARTERLY REPORT ON FORM 10-Q FOR PERIOD ENDED SEPTEMBER 30, 2005 EXHIBIT INDEX <TABLE> <CAPTION> EXHIBIT NO. DESCRIPTION <S> <C> 31.1 Certification by the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification by the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32 Certification of Periodic Financial Report by the Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. </TABLE> 17