Westport Fuel Systems Inc. (NASDAQ:WPRT) Q4 2023 Earnings Call Transcript

Westport Fuel Systems Inc. (NASDAQ:WPRT) Q4 2023 Earnings Call Transcript March 26, 2024

Westport Fuel Systems 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: Good morning, ladies and gentlemen. My name is Sylvie and I will be your conference operator today. At this time, I would like to welcome everyone to Westport Fuel Systems Q4 2023 Conference Call. Note that all lines have been placed on mute to prevent any background noise. After the speaker’s remarks, there will be a question-and-answer session. [Operator Instructions] And I would like to turn the conference over to Ms. Ashley Nuell. Please go ahead.

Ashley Nuell: Good morning, everyone. Welcome to Westport Fuel Systems’ fourth quarter conference call for the 2023 fiscal year. This call is being held to coincide with the press release containing Westport’s financial results that was issued yesterday. On today’s call, speaking on behalf of Westport is Chief Executive Officer and Director, Dan Sceli; and Chief Financial Officer, Bill Larkin. Attendance on this call is open to the public, but questions will be restricted to the investment community. You’re reminded that certain statements made on this conference call and our responses to certain questions may constitute forward-looking statements within the meaning of the U.S. and applicable Canadian Securities Laws. And as such, forward-looking statements are made based on our current expectations and involve certain risks and uncertainties. With that, I’ll turn the call over to you, Dan.

Dan Sceli: Thanks, Ashley. Good day, everyone. I’m pleased to join you on my first call as CEO and Director of Westport. Today, we’ll be covering our strategic objectives from 2023, recapping our highlights from last year, and providing an outlook for 2024. I’ll then turn the call over to Bill to walk us through our Q4 and annual results. I wanted to start by hitting some of the key highlights and top line numbers for 2023. With the recent announcement of the signed investment agreement, we are excited to be in the last stage of finalizing our HPDI joint venture to accelerate the commercialization and global adoption of Westport’s HPDI fuel system technology for long-haul and off-road applications. We are now working towards closing the joint venture and ensuring it’s set up for success from day one.

Touching on our financials, for the full year we generated revenue of $331.8 million as compared to $305.7 million in 2022. In addition, we continued to delivering improved gross margins, both in dollar terms and as a percentage revenue, with total gross margin for 2023 of $48.9 million, or 15% of revenue, as compared to $36.2 million, or 12% of revenue in 2022. We improved our adjusted EBITDA over $6 million — by over $6 million to a negative $21.5 million in 2023 as compared to a loss of $27.8 million in 2022. My first two months with Westport have been a great adventure. I have visited all our main facilities, gained a deep understanding of our technology and products and learned about Westport’s strengths and what improvements need to be made to optimize our productivity.

After assessing Westport’s current situation, I established three main priorities for the company in 2024 and beyond. Including: number one, driving success via our HPDI joint venture with Volvo; number two, improving operational excellence; and number three, reimagining a hybrid empowered future. To ensure that Westport achieves growth and success over the long term, we need disciplined operations that flow from a strong strategic plan. These priorities are consistent with that need and are expected to elevate the performance and the value of our business long into the future. However, in the near term, we have already begun to act in a more disciplined way by cutting costs and making headcount reductions where necessary. As an example, in 2023, our overall headcount declined compared to the previous year, primarily due to the necessity to scale down operations at our facility in Argentina, the consolidation efforts in Italy, and closing of our production plant in India.

We expect this trend to continue and for our overall headcount to decline compared to certain financial metrics like gross margin as we increase our discipline and focus on operational excellence. I’m also excited to announce that earlier this year we delivered the first LPG fuel system to our global OEM customer. This program is a demonstration of exactly the type of work that our light duty business should be undertaking. We were able to secure a multi-year program and deliver against this program with minimal capital expenditures and no expansion to our production footprint. Regarding Asia, our recent pivot in India is proving to be beneficial so far. We are seeing some benefits from our restructuring and our new approach appears to be net positive.

This includes leveraging our local partner to deliver components and systems into this market, which is one of the fastest growing markets in the world. Regarding China, facility construction is underway and capital investment for the assembly lines and other equipment is in progress. Recently the regulations associated with hydrogen components have changed in China, resulting in a slightly longer timeline to complete the certification of the initial products we plan to launch in China. We therefore anticipate production will commence in the second quarter of 2025, rather than later in 2024 as originally expected. Westport is fortunate to be part of a compelling industry in which alternative fuels are seeing increased support and investments.

Many industry experts believe that over the next six years alternative fuels will become more affordable and easier to access. Government policies and regulations are also being implemented to support this shift as hydrogen fuel stations are beginning to populate the transportation corridors across the EU. By 2030, we expect to see a significant change in the alternative fuels industry. That aligns with Westport’s goals of offering more hydrogen fuel-based options to support the future of sustainable transportation. I also wanted to highlight our recent efforts around the commercialization of our products across multiple modes of transport. We are at the intersection of innovation and sustainability, and each program I am about to discuss represents another step forward in the pursuit of cleaner, more sustainable energy solutions.

First, in November of 2023, we announced a collaboration with a leading global OEM in the rail industry. This partnership aims to adapt our hydrogen HPDI fuel system for applications in locomotives and related equipment used in freight and transit rail sectors. By leveraging the power of hydrogen, we hope to contribute to a greener future for rail transportation. Secondly, in December, Westport proudly announced a monumental development program with a global heavy truck manufacturer. This program focusses on adapting our next generation LNG HPDI fuel system to meet the stringent Euro 7 emissions requirements for heavy duty vehicles. With a significant investment of $33 million funded by the OEM, we are working diligently to integrate cleaner energy solutions into the transportation sector.

Lastly, we are engaged in a proof-of-concept project with a global supplier of power solutions for marine applications. Beginning this quarter, this project will explore the use of our HPDI fuel system fueled with methanol for marine propulsion. With the support of our OEM partner, we aim to explore alternative, sustainable energy sources for maritime transportation. Methanol is easier to handle, requires less room and less expense to bunker on a vessel, and it has a lower CO2 footprint than emissions-intensive fossil fuels. The testing of HPDI technology for use with methanol in the marine application is a natural extension of our HPDI technology. We expect that our HPDI fuel system with methanol will be able to provide similar torque, power, and efficiency to diesel, while also potentially reducing NOx emissions.

These initiatives represent more than just technological advancements. They embody our unwavering commitment to a brighter, greener future for generations to come. Through collaboration, innovation, and dedication, Westport is leading the charge toward a world where sustainability and progress go hand-in-hand. Together, we are embarking on a journey towards a future defined by a cleaner, healthier future for all. Regarding the progress of our HPDI joint venture, as I mentioned above, the investment agreement has been signed. We are in a good place to start working on closing the joint venture and hope to have it operational prior to the end of the second quarter. However, we still have a lot of work ahead of us. Even once the JV is closed, as a company, we still must invest significant time and energy into supporting its growth as it begins its journey as a standalone enterprise.

Volvo and [Technical Difficulty] and share the vision of creating sustainable transport solutions. We look forward to a long and prosperous future with the Volvo team. And with that, I’ll hand it over to Bill, who will walk you through our financial results. Bill?

Bill Larkin: Good morning. And thank you, Dan. In the fourth quarter of 2023, we generated $87.2 million in revenue. This is a 12% increase compared to $78 million in the prior year period. For the full year, we generated revenue of $331.8 million, this compare to $305.7 million in 2022. For the fourth quarter, the revenue improvement was primarily driven by an increase in our light duty OEM volumes, electronics business, and engineering services from the heavy duty OEM business, which were partially offset by lower sales volume in the independent aftermarket, heavy duty OEM volumes, delayed OEM, and fuel storage businesses. In our independent aftermarket business, increased sales volume in Europe were more than offset by lower volumes for Africa and South America.

Gross margin increased $8 million or 9% of revenue in the quarter. This is up from $4.6 million or 6% of revenue in Q4 of 2022. Gross margin for the full year was $48.9 million or 15% of revenue as compared to $36.2 million or 12% of revenue in 2022. Higher sales volumes across multiple businesses and increased gross margins in our heavy-duty OEM business driven by the higher engineering services revenue drove improvements in our gross margin. However, the gross margin was offset by higher production costs stemming from global supply chain challenges and inflation, specifically in logistics and labor costs. We’re continuously working with our customers to pass through the impacts of cost increases where we can. Lastly, we did record $5 million in inventory write-downs during the fourth quarter of 2023, which $4.5 million related to our heavy-duty business and negatively impacted our gross margin.

Including the impact of the inventory write-downs, gross margin for the quarter would have been approximately 15% of revenue. In the fourth quarter of 2023, adjusted EBITDA was a loss of $10 million. This is an improvement compared to a loss of $12.9 million in Q4 of 2022. Total adjusted EBITDA loss for 2023 was $21.5 million as compared to a loss of $27.8 million in 2022. The improvements in revenue and gross margin drove positive improvements in adjusted EBITDA, which were partially offset by higher research and development expenditures to further invest in our hydrogen and light duty OEM businesses. Increases in G&A expense, which include a $4.5 million of severance cost, increases in sales and marketing expenditures to support hydrogen marketing activities, as well as increased corporate expenses, including consulting and legal fees related to ongoing activities to include finalizing our HPDI joint venture.

We expect this trend with respect to increased costs associated with setting up our joint venture to continue through the first half of 2024 as we move forward towards closing. OEM revenue for the fourth quarter of 2023 was $61.2 million, as compared to $47.8 million in the prior year period, and $222.8 million for the full year of 2023 compared to $198 million for 2022. The increase in revenue for the fourth quarter is primarily driven by increased sales volumes in light duty OEM and electronics businesses, as well as higher engineering services revenue from our heavy duty business. This is partially offset by lower sales volumes in our heavy duty OEM volumes and delayed OEM business. The gross margin in our OEM business expanded in the quarter, increasing to $800,000 or 1% of revenue, an increase from negative $800,000 or negative 2% of revenue in Q4 of 2022.

Gross margin in our OEM business for the full year of 2023 increased to $25.3 million or 11% of revenue. This is compared to $13.6 million or 7% of revenue in 2022. The increase in gross margin for the fourth quarter was driven by an increase in revenue, partially offset by the $4.5 million inventory write-down in the heavy-duty business. Specifically, this write-down relates to a shift in a customer’s priority regarding the interim platform on which our development work is ongoing. On the LPG side of our business, we’re excited to start shipping our Euro 6 fuel systems to our global OEM customer earlier this year. As a reminder, this program includes both Euro 6 and Euro 7 deliveries and expected to generate approximately EUR255 million in revenue through 2028.

Affordability drives the buying decision in the LPG market. Currently on average, the cost of LPG in Europe is less than half the cost of petrol or diesel, and our product enabled customers to take advantage of these fuel price differentials. The independent aftermarket revenue for the fourth quarter of 2023 was $26 million compared with $30.2 million in the prior year period and $109 million for the full year of 2023 compared to $107.7 million for 2022. Lower sales volumes in Africa and South America markets drove down the quarterly decline, partially offset by higher sales volumes in Europe. Despite the decrease in our Q4 2023 independent aftermarket revenue, our gross margin increased to $7.2 million or 28% of revenue compared to $5.4 million or 18% of revenue in the prior year period.

Margins for the quarter were primarily impacted by the positive sales mix, lower electronic components cost, and increased sales volumes in Europe. For the full year, the independent aftermarket gross margin increased to $23.6 million or 22% of revenue compared to $22.6 million or 21% of revenue for 2022. Looking ahead, supportive LPG pricing continues to boost demand in Europe, which is an important area of growth for a company in the years ahead. Over the last 10 years, net cash used in operations have steadily and significantly improved. We’ve seen a substantial improvement and reduction in our cash used in operations to $13.2 million in 2023 compared to cash used in operations of $34.6 million in 2022 and $43.8 million in 2021. We are encouraged by this trend as it shows the sustainable and meaningful improvements we’ve been making across the entire business over the long term.

Regarding liquidity, our cash and cash equivalents at December 31, 2023, was $54.9 million, which was a net decrease of $31.3 million in 2023. This compare to $86.2 million in cash at the end of 2022. Cash used in operating activities was $13.2 million, and the year-over-year reduction in cash used in operating activities was facilitated by improvements in working capital. We purchased $15.6 million of fixed assets during 2023 and had $2.2 million in net debt payments. In Q4 2023, we secured an additional $11.5 million in new term loans. And we secured an additional $3.9 million in the first quarter of 2024. As I mentioned, corporate costs were higher due to increased costs related to ongoing activities to finalize the joint venture, along with increased legal fees related to our restructuring in India and $4.5 million in severance costs.

As Dan mentioned, cutting costs through 2024 is the main priority. And we’ve already begun taking the necessary steps in areas like headcount to make impactful reductions. Regarding our cash burn trend, we are making progress, but we still have a lot of work to do here. Looking forward, we have multiple projects and initiatives either announced or underway that will have a positive impact on our liquidity as we continue to prioritize solidifying our balance sheet. First, the formation of our HPDI JV is almost complete and is substantial for Westport financially and HPDI commercially. To recap the arrangement, Volvo’s payments for their 45% share of the joint venture includes an initial $28 million and an earn-out amount of up to $45 million, which is a clear signal of their commitment to the future growth of HPDI.

That also helps shore up our balance sheet. With the investment agreement signed, closing the JV will be our next step in establishing our commitment to Volvo and our HPDI technology. Moving forward, we’ll continue to be prudent in our liquidity management and multiple steps are being taken to do so. However, we will continue to do what is necessary to ensure we are adequately and fully capitalized. Thank you. And with that, I will turn the call back to Dan.

Dan Sceli: Thanks, Bill. Finally, I wanted to close on a few key points. Westport is part of a compelling industry with a bright future. And we are driven to make a material impact on the decarbonization of the transport industry. The magnitude of this impact will only grow as we deliver our products to more customers. Although we made considerable progress in the second half of 2023, regarding our strategic priorities and implementing operational efficiencies, achieving cost reductions, and strengthening our balance sheet, we recognize that our work is not done. We remain committed to enhancing our core capabilities, learning and evolving as a company, and seizing new opportunities for continued growth and value creation. In the near term, we are focusing on cutting costs and optimizing operations.

Nothing is off limits. We have already begun to identify and eliminate redundancies, and we are looking at spending throughout the organization. Additionally, better inventory management is key. These are only a few examples of the areas we are targeting to improve Westport’s overall profitability. I want to take a moment to thank everyone for being here today. I’m excited to be on this call and energized by and committed to Westport’s bright future. With that, I’ll turn it over to the operator to open the call for your questions. Thank you.

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Q&A Session

Operator: Thank you, sir. [Operator Instructions] And your first question will be from Amit Dayal at H.C. Wainwright. Please go ahead.

Amit Dayal: Thank you. Good morning, everyone. Dan, on all the cost-cutting initiatives and gross margin improvement initiatives, could you give us any sense of where you might arrive at in the next 12 to 18 months in terms of operating costs and gross margin levels?

Dan Sceli: So I’m not going to get into any specific numbers. As you know, I’ve been on the job here for a couple of months and I’m digging in hard and getting the team circled around the wagon so to speak to identify and focus on areas of redundancy, of open capacity, of cost cutting. We’re going through that process very aggressively, and we will be executing many of those initiatives throughout the next six, nine, 12 months. But I can tell you that my approach is one of operational excellence. And we will be driving that through the organization to ensure that everything we do, we do professionally, very well and efficiently. And the benefits will come out of that.

Amit Dayal: Understood. With respect to inventory write downs, is there some additional costs on that side that could be coming down the line or are we done with whatever needed to be addressed?

Dan Sceli: Bill, you want to take that one?

Bill Larkin: Yes, I’ll take that one. We continue to evaluate our inventory across all the businesses. And as of right now, that’s based on the assessment that we did resulted in the write down during the quarter. We’ll continue to assess our inventory levels, our customer commitments going forward, and we’ll continue to monitor it at this point. I’d like to say, I don’t expect any future write-downs, but we are a manufacturer. We do supply components, and we typically do have some level of write-downs each quarter.

Amit Dayal: Okay. Thank you, Bill…

Bill Larkin: But not in the sense [indiscernible] during the quarter.

Amit Dayal: Right. Understood. Just last one for me. For 1Q 2024, should we expect a bounce back in gross margins?

Bill Larkin: Well, I mean, if you…

Amit Dayal: Compete to 4Q.

Bill Larkin: Well, I mean, if you exclude the write-downs, that write-down is going to have improvements in our gross margins. As Dan said, we’re looking at reducing our cost structure across the entire company. And it’s — over time we would expect to see improvements in our gross margin, but as of right now, a lot of those improvements will be dictated by the timing of executing and implementing those initiatives across the company.

Amit Dayal: Okay. Understood. That’s all I have [Multiple Speakers]

Bill Larkin: Okay.

Operator: Thank you. Next question will be from Rob Brown at Lake Street Capital Markets. Please go ahead.

Rob Brown: Hi, good morning.

Dan Sceli: Good morning.

Rob Brown: And welcome, Dan. As you kind of move into the Volvo JV process, could you give us a sense of sort of how the first year or so of that JV should look and ramp? And what sort of your expectations coming out of that over the first 12 or 18 months?

Dan Sceli: Sure. In the first 12 months, it’s really getting the organization up and running as a standalone entity, ensuring that all the business processes, the policies, procedures we need to run a standalone business are in place. The product that we’re shipping today, it’s the product we’ll be shipping next quarter. It’s the building the business around it with our partner and making sure that’s all organized well and running And then, of course, we’re going to continue on developing technology and building the future for the joint venture.

Rob Brown: Okay, good. And then on China I wanted to clarify your comments that the China sort of activity there you said was running a little behind schedule. How do you see that playing out and is there enough visibility to sort of say 2025 or is it still unclear on how that ramps?

Dan Sceli: Well, the changes in the Chinese regulations are having us on the product that we’ve been developing, having us go through some new regulatory testing and certification. It hasn’t changed the timeline of our development of these new hydrogen components. It just delays how fast we can put them into the market. And there’s no sense having a plant sitting there empty while we’re going through a certification. We’re just timing the move into the plant with the certification and the production just to ensure that we’re efficient in managing our costs. The timeline of our development has not changed. We’re developing the hydrogen products and those will be going to the market in China.

Rob Brown: Okay, great. Thank you. I’ll turn it over.

Operator: Thank you. Next question will be from Eric Stine at Craig Hallam. Please go ahead.

Eric Stine: Good morning, everyone.

Dan Sceli: Good morning.

Bill Larkin: Good morning.

Eric Stine: Hey, good morning. So just wanted to clarify. So with the JV, and I know in that first 12 months it really is focused on how do you get it set up? How is everything working together? But just to be clear, I mean, that really shouldn’t impact the volumes that you would be shipping to Volvo today, right? As you said Q1 will be the same model that you have been shipping the on and off engine components. Is that how we should think about that? And with that in mind, what is your expectation for those volumes in 2024?