ESS Tech, Inc. (NYSE:GWH) Q1 2024 Earnings Call Transcript

ESS Tech, Inc. (NYSE:GWH) Q1 2024 Earnings Call Transcript May 7, 2024

ESS Tech, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Ladies and gentlemen, thank you for standing by. At this time, all participants are in a listen-only mode. Later, we’ll conduct a question-and-answer session. [Operator Instructions]. I would now like to turn the conference over to Erik Bylin. Please go ahead.

Erik Bylin: Welcome to ESS’ First Quarter and Fiscal Year 2024 Financial Results Conference Call. Joining me on the call today from ESS are Eric Dresselhuys, CEO; and Tony Rabb, CFO. Following management’s prepared remarks, we will hold a Q&A session. Earlier today, ESS released financial results for the first quarter of fiscal year 2024. The earnings release is available on the Investor Relations section of the company’s website. As a reminder, the information presented today will include forward-looking statements, including, without limitation, statements about our growth prospects, partnerships, financial performance, and strategy for 2024 and beyond. The forward-looking statements are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from those projected or implied during this call.

In particular, those described in our Risk Factors set forth in more detail on our most recent periodic reports filed with the Securities and Exchange Commission, as well as the current uncertainty and unpredictability in our business, issues with our partnerships, inflation, the markets, the economy and the current geopolitical situation. You should not rely on forward-looking statements as predictions of future events. All forward-looking statements that we make on this call are based on assumptions and beliefs as of the date hereof, and we disclaim any obligation to update any forward-looking statements, except as required by law. During the call, we will also present certain financial information on a non-GAAP basis. Management believes that non-GAAP financial measures taken in conjunction with U.S. GAAP financial measures provide useful information for both management and investors by excluding certain items that are not indicative of our core operating results.

Management uses non-GAAP measures internally to understand, manage and evaluate our business and make operating decisions. Reconciliations between U.S. GAAP and non-GAAP results are presented within our earnings release. With that, I will turn the call over to ESS’ CEO, Eric Dresselhuys.

Eric Dresselhuys: Welcome, and thanks for joining the call. Today, I’ll cover a recent deal, some customer activities, our progress with the Energy Center and our second automation line. Then Tony will cover financials. As we did last year, we have created a video highlighting some of our operations that includes a look at our Energy Center. You can find it at our Investor Relations website. As you saw in today’s release, we just announced a new relationship with Sapele Power, a leading Nigerian energy generation company with over a terawatt of power generation capacity. The initial deployment phase will begin with 8 megawatt hours of storage to improve the efficiency of Sapele’s existing assets by providing ancillary services.

Supported by the Export-Import Bank of the U.S. or EXM, this installation will be a great opportunity to offset backup generators and improve grid resiliency. With future phases including 50 megawatts of battery storage to support green baseload power, this deal exhibits the global market need for long-duration energy storage to help power producers maximize the reliability of their electricity supply. Our customer success team is busy across many installations, and we’re getting great feedback about our team’s engagement with customers at their sites. We’ve made tremendous progress on this front. Between building up the team, formulating the best processes, and technology, and learning to nimbly adjust to the varied operating environments in which our technology operates.

We have established a healthy feedback loop from our customer success team to our engineering and operations teams that is producing design enhancements that lead to simpler, faster installation and commissioning as well as ongoing maintenance. Our team is working closely with our customers to ensure our batteries are prepared to perform as soon as the projects achieve readiness. At Schiphol Airport in Amsterdam, our initial unit is now commissioned and ready to go as this leading airport uses our technology to phase out polluting diesel ground units that supply power to aircraft while parked at the airport gates. We also completed our installation at Burbank Water and Power. We’re excited for them to hold their ceremonial ribbon cutting as the first attempt was unfortunately rained out, but we expect that will happen in the coming weeks.

Our first unit shipped to Carousel has been cycling for quite some time now. In fact, tomorrow is the one-year anniversary of the beginning operation, and our units at Sacramento Municipal Utility District or SMUD are cycling as well. You can see some of the sample operating data from units in the field in our presentation. We’ve also recently installed and are commissioning a unit with SP Energy in Colorado, and we’re eager to get that going with our partner. With every operating cycle logged in the field, we establish greater credibility with potential customers and demonstrate the efficacy of our iron flow battery technology in meeting the decarbonization needs of our customers across a variety of operating environments. We believe these deployments and the many more we are planning over the coming months are establishing ESS as the most deployed, most proven, and flexible long-duration storage technology available in the market.

Our work with customers is building a great reference set across a variety of applications, use cases, and geographies that will serve us well as we expand our impact. We were also happy to learn of a visit by a Honeywell team to the Energy Warehouse system that we shipped to one of their locations just outside of Chicago. The Honeywell CEO and a handful of his high-ranking executives were in Chicago and stopped in to see their first energy warehouse purchase and were guided around the unit. We’re really excited to continue planning and building momentum between the teams. In fact, you can see a testimonial from Honeywell in the video we posted on our website. And now I’d like to give you a peek into some of the detail behind our progress with the Energy Center product.

As I mentioned in the last call, we have built and are now testing the inaugural EC system to be put into operation for Portland General Electric. As you may have seen, we recently passed the testing to meet the requirements for the highest level of IEEE 693 certification, a seismic rating that qualifies the EC system for deployment as critical infrastructure across the United States. While seemingly mundane, this is one of the many important administrative boxes that need to be checked in order for any long-duration energy storage solution to be installed in seismically active areas, which also double as some of the most fertile renewable energy markets, including our West Coast and Australia’s East Coast. Importantly, we are the first non-lithium grid scale battery to achieve this certification.

Beyond seismic certification, I’m pleased to share that we have completed all of the 90 plus internal tests we run to validate the operation, safety, and performance of our solutions. This rapid progress was driven by our dedicated employees here at ESS, and I was thrilled to see the team leverage the learnings from our earlier energy warehouse product experiences to shorten the time and improve the efficiency of the EC’s new product introduction. We are also now conducting additional durability cycling against both the PNNL and ENGINE 19 testing regimes and the unit is performing well. We will start building our second EC system for Portland General Electric immediately adjacent to the first unit, which we expect to take place in early Q3.

This unit will incorporate a number of design optimizations from the first EC to enhance manufacturability. From there, we’ll quickly move to production for commercial deliveries, which we expect to start shipping to Tampa Electric and SMUD in the back half of this year. While it’s still early, we can already see the leverage made possible for our business by deploying our energy center batteries. The EC will have more than 2.5 times the energy capacity of our EW with the same footprint. We are still optimizing the design, but we expect the EC to be 25% cheaper to build on a per megawatt hour basis than an EW due to its greater capacity and the fact that it uses much of the same internal componentry. With this significant cost advantage, achieving our EC ramp is another great step towards profitability as a business for ESS.

I also wanted to share that for more than a year, we have been cycling what we call durability units in our facility. The purpose of these units is to run tests to subject them to varied operating demands and learn from their response and hone the design and maintenance processes. We have four of these durability units, and two have been cycling since early 2023, combining for more than 750 charge-discharge cycles representing more than two years of operation. You can see a sample cycling chart in our investor presentation. It has been a valuable exercise as it has helped us validate the operational capabilities of our units. Now I’ll turn to an update on our power module automation capacity. As we’ve shared, our first fully automated line has dramatically lowered the labor hours, cycle time, and cost of building our power modules.

And since the first line began operating, our engineering and manufacturing teams have further honed the line to increase capacity and improve consistency. I’m pleased to share that based on this success, we have ordered our second automation line. Time to coincide with our product shipment ramp, we expect the second line to be operational early next year. By applying the learnings from the first line to this next-generation automation line, we are expecting much greater capacity, which translates into significantly lower CapEx per megawatt hour of production. The second line will be capable of producing more than 600 megawatt hours of battery modules per year, a 40% increase from line 1. And that capacity will come at a dramatically lower CapEx spend per megawatt hour of capacity, about 50% lower than our line 1 implementation cost on a dollars per megawatt hour basis.

This will bring our fully automated nameplate power module capacity to more than 1 gigawatt hour annually and set the blueprint for further expansion as we continue to grow. These savings will be coupled with further operational optimizations across the balance of system, which we anticipate will translate to an approximately 50% decrease in our total cost to add capacity across the system. Clearly, we’re on a great trajectory in lowering not only our production cost but also our cost to expand capacity. The actions we’ve taken to streamline cost and improve production capacity are helping us scale the business for future growth. And we are diligently executing towards our revenue and profitability ramp in the second half of the year. Given that, we remain well positioned with our EW and EC shipments through the year, so we remain comfortable that we can triple or quadruple our revenue compared to last year.

And with that, I’ll turn it over to Tony.

Tony Rabb: Thanks, Eric. Unless otherwise noted, all numbers we discuss today will be on a non-GAAP basis. You will find the reconciliation of GAAP to the non-GAAP financial measures in our earnings release, which is posted on our Investor Relations website. We reported revenue of $2.7 million in the first quarter with the associated cost of revenue reported at $11.1 million. As previously shared, the transition from R&D accounting to inventory accounting results in an LCNRV adjustment that dramatically impacts our current COGS results. This will not be a material contributor to our financials as we reach scale. We continue to make progress towards profitability. However, our COGS results will not fully reflect our cost reduction initiatives benefits, thereby making it difficult to assess our progress through our current financial statements.

As we layer on to our COGS reduction results from 2023, we are making great progress with incremental cost reduction initiatives through value engineering, supply chain optimizations and process improvements for both the Energy Warehouse and Energy Center. With the improvements we are realizing on those additional cost reductions in 2024, we still expect to reach non-GAAP gross margin profitability on the Energy Warehouse by the end of this year. Our non-GAAP operating expenses for Q1 were in line with our expectations at $9 million. Non-GAAP R&D came in at $2.9 million which we believe reflects the company’s run rate and continued investment in our cost out initiatives and product roadmap improvements on reliability, durability and efficiency of the Energy Warehouse and Energy Center.

With that, we reported Q1 adjusted EBITDA of negative $15.4 million another significant year-over-year improvement and indicative of our trajectory towards profitability. I’d like to take a moment to recap some important progress we’ve made on cost reduction. As we mentioned last call, during 2023, we lowered the cost to build an EW by 60% last year and we are targeting another 40% this year. We have invested in another automated line to produce power modules that will greatly enhance our ability to ramp up in 2025 and that capacity expansion comes at a dramatic improvement in cost per megawatt. With our lower-cost power module capacity expansion, we now believe we can expand complete battery manufacturing capacity at half the cost we previously expected.

With this significant operational progress and expanding relationships across great utility customers and strategic partners like Honeywell, we feel we are well-positioned to capitalize on our leadership position in the long-duration energy storage market. Turning to cash flow and liquidity, we ended the first quarter with $89.6 million in cash and short-term investments. We remain focused on managing our cash burn rate, including driving ongoing efforts to optimize working capital and CapEx spend. Our cash on hand should support our business well into the first half of 2025. We continue to opportunistically look to strengthen our balance sheet through dilutive and non-dilutive financing alternatives to provide the necessary capital to give us operational flexibility to respond the market demand.

We feel very good about our cash position and liquidity and the extended runway we possess to push towards our longer-term goal of getting to cash flow breakeven. And with that, I’ll open it up for questions.

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Q&A Session

Operator: [Operator Instructions]. Our first question comes from the line of Colin Rusch. Your line is now open.

Colin Rusch: Could you talk a little bit about where you’re seeing the real manufacturing efficiency? It seems like you guys are making some pretty healthy progress there. I’d love to understand what specifically is moving forward in an incremental way?

Eric Dresselhuys: Yes, sure, Colin. Eric here, I’ll take that and let Tony chime in if he’s got anything to add. The biggest piece for us is in stack manufacturing and getting the fully automated line up and running, getting the whole supply chain that feeds that running smoothly is the single biggest cost item in the product. And so, getting that done is by far the biggest thing. The second thing on the systems side really, I’d say falls into two categories. We’re starting as we’re ramping up shipments, we’re going to use a lot more electrolytes. So, getting the cost down and the manufacturing, the mixing process on the electrolyte down has a big impact. And then on the system side, the balance of system side, it’s a little bit like the process of going through building a car or any other large device, getting the flows through the factory, so that it’s really taking out all the waste and movement and motion through the factory is the biggest thing.

I think there it’s probably more plumbing and electronics than anything else.

Tony Rabb: Yes. Hey Colin, just to add on, this is Tony. On line the second line, we’ve also factored in a number of design improvements that we’ve learned from the first line. So, while the first line is extremely efficient and has pretty high throughput, the second line has factored in some design improvements to it that allow us to get much higher throughput through the equipment than the original fully automated production line. So big pickup on stacked manufacturing capacity.

Colin Rusch: And now that you’ve got a number of units in the field and a significantly higher volume of data around performance, can you talk a little bit about what sort of debt financing your customers are looking at or comfort level incremental diligence that lenders are doing around the technology that may support incremental sales opportunities?

Eric Dresselhuys: Yes. I think we’re going to start to see that ramp up. It hasn’t been a big part of the story today, but in the New York Times article that came out today that we were fortunate enough to be mentioned in and then there was another article in I think Energy Storage News that was talking about this very topic. Lenders in general are starting to look at energy storage as kind of a big growth space. So most of our customers to date have been large industrial customers or municipal customers, and they haven’t relied on third-party financing as much. The IPP market and the developer market for both standalone batteries and renewables is we think going to be a big part of the business going forward and thinkability and having that data for performance is going to, I think be a big boost to building confidence.

I would be remiss if I didn’t also call out that for years now, we’ve had this relationship with Munich Re from a product warranty perspective. And I think the combination of performance data plus feeling really high confidence in the product guarantee are the two things that really help open up that market.

Operator: [Operator Instructions]. Our next question comes from the line of Corinne Blanchard with Deutsche Bank. Your line is now open.

Corinne Blanchard: Good evening, guys. Just maybe if you can talk about so you got a new contract with in a different region in Africa, I believe. So just if you can talk about, maybe, if you have a region of focus or if you have any, geographic that you would prefer to focus maybe in the next 12 months to 36 months?

Eric Dresselhuys: Yes, sure, Corinne. Thanks for the question. I think the vast majority of our business is still going to remain in our core markets of the U.S., Australia and Europe. And we’ve talked about those projects. The new project we announced, we’re excited about it. For us, it looks a little bit like a U.S. project because we’re building and selling the product here in the U.S. to a third-party that’s developed that will deploy it in Africa. But what we are seeing happen is kind of opportunistically anybody that’s moving towards those same use cases that we have in the U.S., in Europe and in Australia around green baseload power, those people are quite, I think, in an accelerating basis saying, we need long duration storage to make the idea of a resilient 24-hour system work.

And the times article today highlighted that as well. So, any place where you’re seeing the transition to Green Base Low Power, we’re going to have opportunities. But we think the biggest opportunities, the majority of our business will remain in the U.S., Australia and Europe.

Operator: [Operator Instructions]. There are no further questions at this time. Mr. Dresselhuys, I turn the call back over to you.

Eric Dresselhuys: Well, I thank everybody for listening in to the call. We’re excited and we remind you to visit our Investor Relations site where you can see a presentation and a short video about our operations and we look forward to talking to you all next quarter.

Operator: This concludes today’s conference call. You may dial disconnect.