FuelCell Energy, Inc.
Q3 2014 Earnings Call Transcript

Published: 9 Sep 2014

[Operator:]

Good day ladies and gentlemen and welcome to the FuelCell Energy Third Quarter 2014 Earnings Results Conference call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions) And as a reminder, this conference call may be recorded. I would now like to hand the conference over to Mr. Kurt Goddard, Vice President of Investor Relations. Sir, you may begin.

[Kurt Goddard:]

Good morning and welcome to the third quarter 2014 earnings call for FuelCell Energy. Yesterday evening, FuelCell Energy released financial results for the third quarter of 2014. The earnings release as well as a presentation that will be referenced during this earnings call is available on the Investor Relations section of the company’s website at www.fuelcellenergy.com. A replay of this call will be available two hours after its conclusion on the company website. Before proceeding with the call, I would like to remind everyone that this call is being recorded and that the discussion today will contain forward-looking statements, including the company’s plans and expectations for the continuing development and commercialization of our FuelCell technology. I would like to direct listeners to read the company’s cautionary statement on forward-looking information and other risks factors in our filings with the U.S. Securities and Exchange Commission. Delivering remarks today will be Chip Bottone, President and Chief Executive Officer, and Mike Bishop, Senior Vice President and Chief Financial Officer. Now, I would like to turn the call over to Chip Bottone. Chip?

[Chip Bottone:]

Thank you, Kurt. Good morning everyone and welcome. Please turn to Slide four, third quarter 2014 highlights. As we continue our global growth, strategic relationships with influential customers and partners of validating our business model and the competitiveness of our ultra-clean distributor energy solutions. During the third quarter, we enhanced our relationship with NRG Energy, a leading independent power producer in North America on multiple initiatives. As disclosed in the separate press release this morning, NRG has purchased the University of Bridgeport project which begins the repeatable business model that we envisioned when we began our relationship. NRG values clean and flexible distribute generation, and extended a $40 million credit facility enhancing our ability to finance the development of projects and develop more projects simultaneously. NRG has also made a substantial equity investment in the company, demonstrating their confidence in the company. Our Global Utility model is continuing to develop on three continents now with interest in holding on-site combined heat power fuel sub plants for their customers in North America, Asia and the European served area. In North America, we identified New Haven, Connecticut as the site of the second of two power plants under previously announced contracts from United Illuminating acquired contact FuelCell installation that supply the existing substation enhancing the resiliency of UI’s power supply while avoiding the need for transmission. In Asia, POSCO Energy, our South Korean partner is on schedule with the construction of four and seven unit FuelCell parks in the Seoul region. A wide spread deployment of large scale FuelCell parks in Asia is demonstrated in the value of FuelCell for utility grid support which is applicable worldwide. POSCO was on schedule with the construction of its manufacturing facility adding a second source of supply for FuelCell modules. During the third quarter, we achieved our highest ever quarterly gross margin percentage since commercializing our proprietary FuelCell technology. The higher margin reflecting more favorable sales mix combined with supply chain cost reductions and manufacturing efficiencies gained from sustained production at 70 megawatts annually. The higher margins were achieved despite lower than expected revenues as closures of some projects moved into the next quarter. I’ll discuss our operations in markets in more detail after Mike Bishop our Chief Financial Officer reviews our financial results for the quarter. Mike?

[Michael Bishop:]

Thank you, Chip. Good morning and thank you for joining our call today. Please turn to Slide five, titled “Quarterly Financial Highlights”. FuelCell Energy reported total revenue for the third quarter of 2014 of $43.2 million compared to $53.7 million for the prior year period. Revenues increased from our second quarter of 2014 as product mix transitioned to more complete power plants. During the third quarter of 2014, product sales totaled $32.3 million, service and license revenues totaled $7.1 million and advanced technology contract revenues totaled $3.8 million. Gross profit was $4 million for the third quarter of 2014 compared to $4.5 million in the same period last year and up from $1.6 million in the second quarter of 2014. The gross margin percentage in the quarter was 9.2% compared to 8.4% in the prior year quarter and more than double the percentage reported in Q2, 2014. This is the record gross margin percentage since the commercialization of our FuelCell technology began. The sales mix in the third quarter of 2014 was basically equally weighted between complete power plants and FuelCell kits. Historically, FuelCell kits have made up a greater percentage of revenues. The higher percentage of complete power plants in the third quarter of 2014 drove the margin expansion and illustrates how the sales mix impacts margin. Total operating expenses were $10 million for the third quarter of 2014 compared to $9.1 million in the prior year period. Continuing from the second quarter of 2014, we had increased spending and product development initiatives related to the increasing demand of new multi megawatt applications to support new order closure, which led to the increase compared to the prior year period. We are targeting operating expenses at this level in the coming quarters. Net loss to common shareholders for the third quarter of 2014 was $7.8 million or $0.03 per basic and diluted share, this compares to $6.4 million or $0.03 per basic and diluted share in the third quarter of 2013. On an adjusted basis, which excludes the net expenses related to the final conversion of the 8% convertible notes during the period, the net loss attributable to common shareholders totaled $7.7 million and also $0.03 per basic and diluted share. EBITDA, which is a measure of cash flow and is based on earnings before interest, taxes, depreciation and amortization, totaled negative $4.7 million for the third quarter. Now I will transition to Slide six, titled “Financial Metrics”. Cash and cash equivalents, including restricted cash, totaled $133.1 million at July 31, 2014. This is a very strong cash position for the company that supports project development and provides assurance to our customers. Additionally, the revolving debt facility which we announced in July 2014 that is extended by NRG Energy substantially increases our total liquidity. Including the existing 4 million revolver extended by JPMorgan plus the NRG facility, the Company had total liquidity of $176 million at the end of the third quarter of 2014 compared to $95 million at the end of the third quarter of 2013. Net cash used by operating activities in the third quarter of 2014 was $15.9 million, which includes a $4.8 million increase in accounts receivable reflecting orders announced in the second quarter of 2014. Depreciation expense for the quarter was $1.1 million and capital spending during the quarter was $2.2 million. The final conversion request for the 8% convertible notes were received during the quarter and the instrument was retired with no outstanding balance at quarter end, which reduced future interest expense. During the third quarter, we maintained the annual production level of 70 megawatts and shipped 11.2 megawatts of FuelCell kits. Backlog increased sequentially to $350 million at July 31, 2014 compared to $343 million at the end of our second quarter. Backlog includes product sales orders of $137 million or 82 megawatts. Service backlog increased to $202 million at the end of the third quarter compared to $163 million this time last year and $182 million at the end of Q2, 2014. Advanced technology contract backlog was $11 million at the end of the third quarter. In megawatts, product backlog decreased by 7 megawatts during the quarter, while in dollars, total backlog increased by $7 million reflecting our continuing transition towards a higher margin business focused on delivering turnkey projects in the U.S. and growing service revenue from long term service agreements. Our service backlog exceeded $200 million for the first time as of the end of the third quarter. We value the service business for the financial predictability it can offer with a growing installed base and it reinforces our long term customer relationships. Now please turn to slide seven, titled “Position for profitable growth”. As we have highlighted in our previous earnings call this year, as we booked additional complete power plants, the sales mix becomes more favorable leading to extending revenues and margin. At the current production level of 70 megawatts annually, we continue to target average quarterly revenues of $50 million to $60 million, low teen margin percentages and expect to reach EBITDA breakeven. Actual results are depending on the timing of customer requirements and order closure. We were below this level in the third quarter as a result of timing or had high confidence in converting near term pipeline and inventory against the revenue and cash in the coming quarter. The company will increase production levels as backlog support. The annual production capacity for our North American facility is 100 megawatt, which the company will leverage to drive additional growth. We also have plans in place to expand and scale beyond this level as multi megawatt FuelCell parks become a larger percentage of our sales mix. We expect net income profitability to be achieved in the range of 80 megawatts to 90 megawatts of annual production volumes. Finally, we expect our agreements with NRG Energy to be a strong catalyst for near term growth. NRG is seeking to leverage our project development capabilities as demonstrated by today’s announcement of the sale of the University of Brideport project to NRG. This is also supported by the $40 million loan facility extended to us by NRG in the third quarter. NRGs investment in FuelCell energy provides a supportive and long term holder with interests are well aligned with that as a company. These agreements coupled with our strong financial position are expected to increase multi-megawatt orders flow and lead the continued improving trends and business profitability. I will now turn the call back to Chip for further discussion of the NRG relationship, our operations and market activity. Chip?

[Chip Bottone:]

Thank you, Mike. Please turn to Slide eight, Flexibility and Endorsement. As I mentioned we expanded our relationship with NRG Energy, our partner in North America. NRG is a Fortune 250 Company that serves almost 3 million residential and commercial customers in the USA as a driver of change in the Energy industry, NRG is working to provide its customers with cleaner and more efficient energy options, including our distributed FuelCell power plants. This relationship is closely aligned with NRGs focus on distributed generation. Our Ultra-Clean power plants are ideal distributed generation solutions that produce flexible base load power within a small footprint easy to permit the rapid project execution and installation. Announcing our first project sale to NRG is a notable accomplishment as we look to replicate the structure for other projects. What this means to investors is multi fold. NRG invested in FCE for [accretable] deal flow and they are attracted to the project due to the predictable cash flows, solid credit off takers and compelling project economics. The project is a good marketing for our sales teams as we work to structure projects due to power purchase agreements with other customers that want to benefit to clean on-site power without the initial capital outlay to purchase the asset. This announcement signals to our perspective customers that we can attract capital for their project and this announcement will help us attract additional sources of capital from investors that value the NRG name and their due diligence process. During the third quarter, NRG extended a $40 million credit facility for project development and made a substantial investment in our company. NRG’s continued investment further validates our distributed generation solutions and business model for their customer base. NRG with 6% ownership is now the second largest holder of our common stock with POSCO Energy a large holder at approximately 11%. Combined with our company’s strong cash position, this investment is reassuring to customers that are entering into project related agreements with us for extended periods of 15 years and more. We value the added operational flexibility and financial leverage we gained through the NRG credit facility, now we have access to committed capital under attractive terms, enhancing our ability to develop projects and then sell fully operational power plants to long term project investors. The facility speeds up execution, minimizes construction period financing that optimize the financing of completed projects that was expected to help accelerate order flow. Our partnership with NRG opens up three areas of opportunities. First, NRG customers needing clean and flexible on-site power will minimal space requirements. NRG will own the plants and sell power and heat under the power purchase agreements. Second, development by FuelCell energy of large multi-megawatt FuelCell parks financing through NRG. And third, the potential for re-powering the existing NRG power plants for clean energy with permitting and interconnections already in place. Please turn to slide nine, Operations. Our objective in operations is to build a strong foundation to realize our vision with a culture of continuous improvement. As you can see from the improved margin we are gaining operating leverage which will further improve the volume growth and mix improvement as Mike referenced. We are continuing to maintain a 70 megawatt annual production rate at our North American manufacturing facility. Based on our continued high confidence level and near term order projections, we have maintained this rate and will increase as demand supports. Reinforcing our core values of continued improvement and commitment to quality, we recently announced that FuelCell quality system is now ISO 9001

[Operator:]

Thank you, sir. (Operator Instructions) Our first question comes from Jeff Osborne from Cowen & Company. Your line is open. Please go ahead.

[Jeff Osborne:]

Good morning, guys, just a couple of questions from my end. Chip, I was wondering, I Michael alluded to a timing issue in the quarter where the revenue was below the $50 million to $60 million run rate that you’re targeting for the 70 megawatt run rate? Can you just touch on what some of the issues were in timing? Was it financing in the NRG arrangement or something else relating to construction or some other variable, I’m not thinking about?

[Chip Bottone:]

Okay. Jeff, good morning. Good to talk to you again. Yes. So just on that -- just to kind of step for second, Jeff. One of the things that we do in our model is that when we announce a project, it’s ready to go. I mean, we’re starting work on everything from engineering and so forth. So, we did have -- we do have several contracts that we physically have signed, but are not at the same state of that and those will flow into the next quarter. So that’s a little bit of the revenue change. Because you know our business model is to build these in a fairly short period of the time. The NRG, line of credit, things like that fit right in with that model. So, I expect us to catch up, but that’s really -- I can’t be too specific, because our policy is that we have these things completely signed off and all of different things necessary to go forward or are in place. And so that just wasn’t so on some of these kinds of last minute changes. But I’m now worried about the timing of the per se, because we have so much going on right now, it just the question of making sure they are ready to go and they were quite ready to go to put them in the news release.

[Jeff Osborne:]

Understand. But if I'm hearing you right, the confirmation that you will run at 70 megawatts in the current quarter, there's no variable that you are aware of that you wouldn't be in that $50 million to $60 million revenue run rate for the quarter that we are in now as it stands today? Okay, perfect.

[Chip Bottone:]

The plants were running with the same 70 megawatts, yeah.

[Jeff Osborne:]

Okay. Two other questions. I just wanted to understand the reserve cash line and the evolution of that line as you look at the project pipeline that you have, as well as considering now that you have the NRG relationship and lines of credit. Will you still be needing to reserve cash to the degree that you did for the Bridgeport project as NRG maintains ownership? And assuming you still have a service arrangement, I think it was roughly $1 million per megawatt for Bridgeport. I just didn't know as the pipeline in evolves and NRG takes ownership of these, and given they own a piece of your Company, if the reserve amount could be a bit less moving forward?

[Michael Bishop:]

Hi. Good morning, Jeff. This is Mike. Let me take that -- let me take that question. So, as you alluded to, on the Bridgeport project there is a cash reserve related to us performing under our service agreements? Every contract is different. What I would say, as the liquidity position of the company improves, we would see those requirements be much less or not at all certainly for strategic partners in that type of thing.

[Jeff Osborne:]

Okay. I think in the past, Chip, you've talked -- the last question I had is, you've talked about a 600 megawatt kind of pipeline or RFP activity that you are aware of. Based on your response to my first question, it sounds like the opportunity set in front of you is quite large, both near and long term. But I just wanted to see if you could provide any color on where, geographically, you are most excited about or where you think the opportunity lies. In particular with Europe, which has been a bit slow to evolve, and maybe even touch on the Abengoa relationship, if there's any progress there, would be helpful?

[Chip Bottone:]

Yes, Jeff. So you’re right. We’re kind of look at things on a global basis, that number refers to the stuff that we’re working on our global basis. Obviously, it’s different in the regions of the world. But as you kind of probably tell from my comments, we start in Asia. Things were quite orient. We are still working on how do we generate -- unlikely -- sorry, activity in Japan, but the Korea market is very, very active and there’s been a bunch of things made public. That’s why I touched on it in my comments. I am excited about Europe. We’re doing the right things. We’re getting some really interesting attraction. We’re meeting with the people who make the rules in the UK, in Germany and other places, which is nice and they are kind of like going, I didn’t realize you guys did all this stuff. That’s good. Timing is good. There’s been obviously the economic issue and recent issues with some concerns about gas in Russia from Russia. But now we’re moving ahead with some projects. In fact, we have some pretty near term opportunities which hope we will talk about on the next call. But I would say the biggest spike in activity is been in North America coming from really all sectors. You alluded to in your note this morning. I think different things going on in the Europe that is correct. We have actually in New York, submitted projects and now we have to get selected for those. We’ve also been awarded LREC contracts in the State of Connecticut, which are not public, which we need to finalize those. But, yes, it’s pretty buoyant even in California there’s a lot going on. So, our challenge is, is to get those finished, buttoned up, ready to go and then that would fit nicely into what production plans and inventory that we currently have to bring the closure.

[Jeff Osborne:]

Excellent, thanks for the details. I appreciate it.

[Operator:]

Thank you. And our next question comes from Sven Eenmaa from Stifel. Your line is open. Please go ahead.

[Sven Eenmaa:]

Yes. Hi. Thanks for taking questions. First I wanted to ask in terms of a UI plants. When do you guys expect those ship them that 2.8 megawatt one?

[Michael Bishop:]

Hi, Good morning, Sven. This is Mike. Those plants are in constructions right now. We are working -- we are working with -- working the site issues. We’re building the plants in our factory and expect to ship them to physically install on site over the course of I’d say, the next nine months.

[Sven Eenmaa:]

Got it. And looking at the kind of finished good inventory increased in the last quarter. Is that something which is -- as you alluded -- is that -- the increase sequential, is that the function of $10 million are being shipped in the coming December quarter here. I mean in the current quarter or is that something which is a longer lead-time here?

[Michael Bishop:]

Hi, Sven, it’s Mike again. So, I would say it’s a combination of both. An example of what is that inventory right now is we do have the DFC 1500 for example for the University of Bridgeport project, which we just announced this morning. So, as that gets to its commercial operation date that will come out of inventory here pretty rapidly. Some of the inventory could be a little bit longer term for some of the projects that Chip mentioned that we were actively bidding on or expect to come to contract closure here in the next, I’d say, six to nine months. So, manage the inventory level pretty closely and it is targeted for near term orders in our pipeline.

[Sven Eenmaa:]

Got it. And so could you also provide little more color on MOU you announced in Korea. When do you expect the finalization on that side or/and when that -- could that potentially translate into revenues for you?

[Chip Bottone:]

Sven, this is Chip. Good morning. Yeah, let me comment on that. How things work over there, is they usually generally start with these nonbinding MOUs. And its obviously we look at nonbinding MOUs just that, right. They seem to take on a little different flavor. It’s more of a commitment, usually, in reality for them. So I would say that the decisions are ongoing on that. And they are not finalized yet, so from POSCO’s perspective, I think the earlier you’re seeing some of that revenue could be assuming the project – everything, the contracts get done kind of starts in 2015 and beyond. Something that’s big, it’s a multiyear contract. So if you think it starts in 2015 or 2016 you can think about going over the next couple of years.

[Sven Eenmaa:]

Got it Great. Thanks very much.

[Chip Bottone:]

You’re welcome.

[Operator:]

Thank you. I’m showing no further questions at this time. I would like to hand the conference back over to Mr. Chip Bottone for closing remarks.

[Chip Bottone:]

I like to thank everybody for the comments on the calls today. I think we’re making good progress. Clearly our -- people comment about our revenue, but if you think about some of the other things in the quarter, the margin increased, the cash balance, the backlog increased and things like that. And as Jeff tried to get me to talk little bit more about the near term orders, I just want to assure everybody that the activity level definitely supports our actions. And having a business that is acting on all the fundamental things is really important, which I think we’re doing. So with that, I’ll close our call and say again, thank you very much for joining and look forward talking to you on the fourth quarter call. Have a great day.

[Operator:]

Ladies and gentlemen, thank you for participating in today’s conference. This concludes our program. You may all disconnect and have a wonderful day.