Westport Fuel Systems Q2 2024 Earnings Call Transcript

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August 14, 2024

There are 9 speakers on the call.

Operator

standing by. Welcome to the Westport Fuel Systems Q2 2024 Conference Call. At this time, all participants are in a listen only mode. After the speakers' presentation, there will be a question and answer session. Please be advised that today's conference is being recorded.

Operator

I would now like to hand the conference over to your speaker today, Ashley Newell, VP, Investor Relations. Please go ahead.

Speaker 1

Thank you. Good morning, everyone. Welcome to Westport Fuel Systems' Q2 conference call for 2024. 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 Sili and Chief Financial Officer, Bill Larkin.

Speaker 1

Attendance on this call is open to the public, but questions will be restricted to the investment community. You are 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.

Speaker 1

With that, I will turn the call over to you, Dan.

Speaker 2

All right. Thanks, Ashley, and good day, everyone. Today, I'll be recapping our progress and results in the 2nd fiscal quarter of 2024, providing updates on our 2024 strategic priorities, including an update on the JV with Volvo, introducing our new reporting segments, and touching on the success of our July 4 event before turning the call over to Bill to walk us through our Q2 results and new segment reporting structure in more detail. Q2 was a solid quarter, demonstrated by improvements in our margins. Impacting results was the launch of the JV with the Volvo Group.

Speaker 2

During the quarter, we were excited to close this HPDI JV transaction, which resulted in us recognizing 2 months of revenue from the heavy duty business in our results. Beginning in June, the HPDI JV was accounted for under the equity method of accounting for investments. The improvement in our margins and adjusted EBITDA we saw in the quarter reflects the initiatives we have undertaken to reduce costs and streamline our business along with initial results from our more recent growth initiatives such as our LPG fuel system sales to our OEM customer. Our revolving business strategy has long recognized the value of strategic partnerships 1,000,000 plus up to an additional $45,000,000 in the earn out subject to the performance of the joint venture. We know our partnership with Vault is just beginning, and we are excited to continue working together.

Speaker 2

Also in June, we shared our 2023 ESG report, which highlights our commitment to environmental stewardship, social responsibility and strong governance. We're dedicated to sustainable operations because we see the value it brings to our covers. Guided by our core values of integrity, respect and perseverance, we're especially focused on reducing carbon emissions in the transportation to help clear and build a more sustainable future. We continue to make investments against our 3 main priorities for 2024 and beyond. As a reminder, those priorities include: 1, driving success via our HPDI joint venture with Volvo 2, improving operational excellence and 3, reimagining a hybrid powered future.

Speaker 2

Regarding our first priority, as I mentioned, we closed our HPDI joint venture in June of 2024. Although closing the JV with OVA was a significant milestone, the hard work is still ahead of us. We have a lot to accomplish together to ensure that the JV results in the acceleration of the utilization and global adoption of the HPEI fuel system technology for long haul and off road applications. Thankfully, the work has already begun. As we progress, we actively promote developed markets for our technologies and sectors that are challenging to decarbonize, thereby expanding the joint venture's reach into the future.

Speaker 2

As I have said before, our pursuit of profitability and cost cutting is not only a priority. It is essential. In Q2, we closed the amended Port JV with the restructuring in India. It is expected to transition this initiative to generating positive cash flow. We have done a number of things to right size the business and cut costs where we can.

Speaker 2

Many of these changes won't be visible in the financials immediately. However, in Q2, 2024, we began to see some of our initiatives materialize. Our margins grew from 17% revenue in Q2 of 2023 to 21% of revenue this quarter. 1% of revenue this quarter, achieved by implementing tighter control and begin to see benefits of our newer growth products supported by strong margins. One of the significant changes in our retail and residential segment is the additional transparency we now offer growing high pressure controls and systems business.

Speaker 2

Here, we are at the forefront of the clean energy revolution, designing, developing and producing high demand components for transportation and industrial applications. This includes fuel containment and fuel pressure management components for fuel storage and fuel delivery systems. We partner with the world's leading automotive manufacturers and customers committed decarbonize transport, offering versatile solutions that serve a variety of fuel pipes. While hydrogen is the key to the future de carbonization of transport, our components and solutions are already powering emissions and reduce innovation today across our gas fuel, including both E and G and Hydrogen. With decades of experience, market leading brands and unmatched engineering expertise, we are leading the market.

Speaker 2

While we're still small, our strategic presence and innovative capabilities is on the cusp of significant growth and shrinking, we're the go to choice for those shaping the future of clean energy today and tomorrow. In the supplementary information we provided this quarter, underlying our historical results we have under the new segments representing approximately $70,000,000 in additional revenue to be generated in the latter part of the decade. Westport is excited to play a part in an innovative industry in which alternative fuels are seeing increased support in investments. We are poised to deliver now providing alternative fuel solutions to support transport and industrial applications and are prepared to capture the growth as hydrogen develops into the fuel source of the future in the mobility sector. On July 4, Volvo and Westport marked a defining moment in the journey of our newly formed joint venture.

Speaker 2

The 2 companies celebrated the official launch of our partnership with an exclusive event at the University of British Columbia, the birthplace of Westport's HPDI fuel system technology. Leaders from both companies joined in, in the celebration of this milestone, emphasizing the significance of the partnership and driving forward HPDI's breakthrough technology and tackling the urgent challenges of climate change. By combining Volvo's extensive expertise in commercial vehicle and power system manufacturing with Westport's innovative fuel system technology, We are creating a powerful force for change that can make a meaningful contribution to reduce carbon emissions immediately. With that, I'll hand the call over to Bill, who will speak to you and talk you through our financial results.

Speaker 3

Good morning, and thank you, Dan. I'll start off by walking through the segment reporting structure. As Dan mentioned, we find the way we view and report our business operations. Beginning with this quarter, we're reporting financial results under 5 new segments. Now these segments are the HPDIG, light duty, high personnel and systems, heavy duty OEM and corporate.

Speaker 3

Financial results from the ADI joint venture are being accounted for under the equity method and are also supported by enhanced disclosures in our MD and A as well as in the notes to the financial statements. Before I go over the quarterly results, I want to delve deeper and walk you through what is included in each of our new segments. First, the HPDI JV represents our recently closed joint venture with Volvo Group. The financial information presented represents 1 month activity during the Q2. Light Duty segment manufactures LPG and CNG fuel storage solutions and supplies fuel storage tanks to the aftermarket, OEM and other market segments across a wide range of brands.

Speaker 3

Light duty segment includes the consolidated results from our delayed OEM, independent aftermarket, light duty OEM options, fuel storage and electronics businesses. Our high pressure controls and systems segment designs, develops, produces and sells hybrid components for the use of hydrogen and CNG fuels in transportation and industrial applications. Finally, our heavy duty OEM segment reflects the results from the HPDI business for the 1st 5 months of the year until the formation of the HPDI JV, which occurred on June 3, 2024. And going forward, the heavy duty OEM segment will reflect revenue earned from a transitional service agreement in place with the HPDI joint venture. This TSA is intended to support the HPDI joint venture in the short term as the organization transitions to its own operating entity.

Speaker 3

Therefore, after completing the completion of the activities on the TSA, there will be no additional activity in the segments. So to get a complete picture of the HPDI business presented for the quarter, combined HPDI JV and the heavy duty OEM segments. As Dan mentioned, the new segments are designed to support Westport's strategic priorities and provide heightened disclosure, specifically in areas of our business where we see outsized future growth. We hope that the additional transparency provides our investors and analysts information to more accurately model and value Westport. To support this, we have included a recast of historical financials and supplementary information of our Q2 press release.

Speaker 3

Moving on to our 2nd quarter results. In the quarter, we generated $83,400,000 of revenue, a 2% decrease compared to the prior year period. This is primarily driven by decreased sale lines in our delayed OEM and fuel storage businesses. This is partially offset by increased sales volumes in electronics, high pressure controls and systems, light duty OEM and heavy duty OEM revenues in the quarter. Reminder, this is the Q1 with the HPDI joint venture, which impacted our Q2 revenue as Q2 reflects 2 months of HPDI sales activity.

Speaker 3

In our financials with June activity being accounted for under the equity method of accounting for investments. Gross margin increased to $17,100,000 or 21 percent of revenue in the quarter. This is up from 14 point $4,000,000 or 17 percent of revenue in Q2 of 2023. This is largely driven by increases in sales to our European customers, the reduction in sales to developing regions in our light duty business, in addition to seeing the initial results from our cost cutting initiatives. We continue to demonstrate improvement in our adjusted EBITDA.

Speaker 3

This quarter recorded a loss of $2,000,000 which was an improvement by $2,000,000 as compared to the same quarterly period last year. The improvements in gross margin drove positive improvements in our adjusted EBITDA. However, these improvements were partially offset by higher G and A costs in the Q2, which included $2,000,000 in consulting and legal fees related to analyzing the HPDI joint venture. Flight Duty revenue for Q2 of 2024 was $69,500,000 as compared to 73,700,000 for Q2 of 2023. This decrease was driven by lower sales in our delayed OEM, independent aftermarket and fuel storage businesses and was partially offset by increased sales in our light duty OEM and electronics businesses.

Speaker 3

As expected, our delayed OEM business continued to see a lower revenue in the quarter as a key customer continued to work through their existing inventory. However, we began seeing sales to the key customers progressively increase through the quarter. Gross margin in light duty business increased in the quarter to $15,100,000 or 22 percent of revenue as compared to $12,700,000 or 17 percent of revenue in Q2 of 2023. This is primarily driven by a change in sales mix with an increase in sales to European customers and a reduction in sales to developing regions. This includes a full quarter of deliveries of Bureau 6 LPE fuel systems to our global OEM partner.

Speaker 3

High pressure controls and systems revenue for Q2 of 2024 was 3 point $4,000,000 which was an increase of $600,000 as compared to $2,800,000 for Q2 of 2023. This was primarily driven by increased sales volumes and product and service revenue. Gross margin increased slightly in the quarter to $700,000 or 21 percent of revenue compared to $600,000 or 21 percent of revenue in Q2 of 2023. The heavy duty OEM revenue for Q2 of 2024 was $10,590,000 This is up $2,000,000 compared to the prior year. The revenue increase was driven by an increase in product sales and engineering services for the 2 months in the quarter when the company wholly owned the HPDI business.

Speaker 3

Additionally, we recorded 1 month of inventory sales from the company to the HPDI for $500,000 under our transitional services agreements. Gross margin dollars in our heavy duty OEM business in the Q2 of 2024 is up slightly to $1,300,000 or 12% revenue compared to $1,100,000 or 13 percent of revenue in Q2 of 2023. Regarding liquidity, our cash and cash equivalents at June 30, 2024 was $41,500,000 This decreased $2,400,000 as compared to the end of Q1 of 2024. With respect to our cash balance, there's $8,400,000 related to the closing of the HPEI joint venture that was received in July. Therefore, this amount is not reflected in our cash balance at the end of the quarter.

Speaker 3

Net cash provided by operating activities was $1,500,000 That's an improvement of $2,100,000 over Q2 of last year. This improvement was achieved through continued reductions in net working capital. Net cash provided by investing activities was $5,800,000 dollars Now this included the proceeds from the sale of our investments of $20,400,000 related to partial sales of our ownership interest in the HPDI JV and the Minda Westport JV. This is partially offset by capital contributions to the HPDI JV of $9,900,000 and capital expenditures of $5,400,000 In the quarter, net cash used in financing activities was 8,900,000 dollars During the quarter, we reduced our use of the revolving credit facility by $5,200,000 and made $3,700,000 of principal payments. As a reminder, in Q2 of 2023, we repaid $8,790,000 to settle our long term royalty obligation with Cartesian.

Speaker 3

Going forward, we'll continue to do what is necessary to ensure we are actively and fully capitalized. We remain focused on our project pipeline designed to enhance our liquidity as we continue to prioritize solidifying our balance sheet. We've been actively implementing cost savings initiatives and we're already seeing positive results. With that, thank you and I will turn it back to Dan. Dan?

Speaker 2

To advancing decarbonization across the mobility sector remains steadfast. As we look forward, we are invigorating possibilities that the future holds and are resolute in our pursuit of innovation and sustainability. I want to take a moment to thank everyone for being here. And with that, I'll turn it over to the operator to open the call for questions.

Speaker 1

Thank

Operator

Our first question comes from Colin Rusch of Oppenheimer.

Speaker 2

Hey, Colin.

Operator

One moment.

Speaker 3

Good morning.

Operator

Oh, Colin, is your line open now? Oh, one moment. We're having an issue with him. I apologize. We're having an issue with his line.

Speaker 4

Okay.

Operator

Our first question comes from Eric Stine of Craig Hallum. Your line is open.

Speaker 5

Good morning, Eric. Hi, Anne. Hi, Bill. Good morning. Can you hear me?

Speaker 5

I know there's some weird stuff going on, on this call, but audio wise, but okay, good. Well, so I know early days for the joint venture, you've had it or it's been in place for, what, 2 months. Just curious, if you could kind of rank the priorities as you see them now. Have they changed at all? And could you give us an update on just thoughts of a new OEM since I know that that was one of the objectives

Speaker 2

and our goals immediately are to get it and our goals immediately are to get it functioning as a standalone business. So putting in place the business systems, the ERP, all of those things are being put in place so that we can operate it separate from Westport. Management team was already organized around a separate entity. There's about a 9 month rollout of actions that make all those things happen to standalone. So immediate priority is getting it functioning and running, but running parallel with equal in priority is bringing on a second OEM and that activity continues.

Speaker 2

It's been ongoing for some time. It was ongoing before. Actually we closed the joint venture and it continues to be ongoing and we're hoping that we'll be able to announce something as we continue to work towards winning that second OEM, which is a priority for both Westport and Volvo.

Speaker 5

Got it. And then I have heard some talk in the market interest in HPDI in North America. And so I'm just curious, maybe this hasn't changed from when it was part of Westport, but now that you are combined with Volvo in the joint venture, maybe how those plans are coming together? Does this help in that endeavor to get it to North America and what that might look like?

Speaker 2

Sure. So HPDI North America is one of those equal priorities, whether it's bringing on a second OEM or bringing the technology to North America through Volvo. We continue to work through engineering and development to build a system that can cross all the continents, but specifically in North America, we see the market is more CNG focused and so we're working on a plan to fill that need and talk to other OEMs in North America. So our commercial activities will continue to move forward in building this business out.

Speaker 5

Got it. I guess I'll stay tuned on that. And maybe my last one, just more bookkeeping. So when we think about OpEx and just the moving pieces of the of Westport going forward, So you said you had $2,000,000 that was that should not repeat. Was I correct in hearing that related to this formation of the joint venture?

Speaker 5

Okay. So $2,000,000 and then it looks like roughly $5,000,000 $6,000,000 of the heavy duty OEM business that would be roughly the OpEx level that also comes out. I mean is this kind of a all in OpEx $15,000,000 type of number per quarter?

Speaker 3

We're continuing to look at that. As Dan mentioned, we still have quite a few cost reduction initiatives that we're working on. And so we're that's across our business. $15,000,000 is about right for the current run rate, but we're going to continue to evaluate that. Okay.

Speaker 3

Thank you very much. Thank you.

Speaker 2

Thanks, Eric. Take care.

Operator

Thank you. Our next question comes from Chris Dandrinos of RBC Capital Markets. Your line is open.

Speaker 6

Yes, good morning.

Speaker 2

Good morning, Chris.

Speaker 7

Good

Speaker 6

morning. I wanted to ask about there was a comment, I think it was in the either the financial disclosure of the MDA and it looks like you all exited the JV with Weichai.

Speaker 5

So if

Speaker 6

you could just speak to that and what maybe the strategy shift was there and I guess thoughts going forward with them? Thanks.

Speaker 3

Well, I mean, it's really 2 separate things. This is a JV that was formed a long time ago. And then more recently, we had a small ownership percentage and they finally exited totally from the joint venture. However, that doesn't change our relationship with Weichai and we continue to support their development activities.

Speaker 6

Got it. Thank you. And then maybe just on the light duty segment. So it sounded like the mix of light duty OEM was more heavily weighted to Europe and you noted the reduction in sales in some of those developing regions. Is there any sort of strategic shift going on with, I guess, maybe that business line and maybe where you're focused internationally and how that impacts your growth going forward?

Speaker 6

Thanks.

Speaker 2

Sure, sure. So the light duty business impacts this year. So Q1, Q2 and will flow through for a bit. The primary one was the OEM that imports vehicles and installs our systems And they tripled the size of their business and they're launching 14 new models in the middle of all this. And so the issue there was they were uncontrolled sitting on a pile of inventory that they didn't realize they had.

Speaker 2

So they're bleeding that off. So the big hit we're taking there is just them bleeding off that inventory. We expect those volumes to come back. We're waiting to see exactly when they're going to come back later this year, but we do expect them to come back. The other piece was the slower launch on the Euro 6 with our OEM over there.

Speaker 2

And that has actually picked up and we'll be gaining volume. So we're actually fairly upbeat about the volume projections for Europe, but we're waiting to see specific numbers from the marketplace on that. So we don't see a major shift in the piece of that world that we play in. In fact, we see it getting a little bit stronger.

Operator

Our next question comes from Colin Rusch of Oppenheimer and Company. Colin, your line is open.

Speaker 8

Thank you, Colin.

Speaker 4

Give this another go. Thanks so much for getting me in. So guys, can you talk a little bit about what's going on with the vehicle customers for hydrogen on the off road opportunity? It seems to me that as the mining industry starts to work towards 0 emissions and the hydrogen industry starts to look at some dedicated facilities that there might be a meaningful opportunity for you guys. So just want to understand how that's developing?

Speaker 2

Yes, sure. So we have been exploring opportunities in the off road. Off road is a growth segment both inside the joint venture for HPDI and within our high pressure components and systems world because there's a play there for that technology. We do see some interesting opportunities coming together and have been in some discussions with some customers on how to help the mining industry transform their technology. So it's early days for us on that, but it is an important priority for us and we are starting to build out the commercial plan of how to pull it off.

Speaker 4

Thanks so much. And just on the light duty side, it seems to me that there's an opportunity around potentially licensing some of the IP that you guys have and end up with a little bit leaner model. Can you talk a little bit about that opportunity and if that's a real thing that you guys are thinking about?

Speaker 2

About licensing, okay. So we're currently building out the capitalization of Euro 6, Euro 7 technology that's going to be ramping up over the next 2 years, 2 to 3 years. And that's been our primary focus. In terms of licensing, I'm not sure who or what you're specifically referring to, but our goal is to expand that technology across multiple OEMs. We do see a pendulum swing back the other way as I think the world sees the hydrogen ecosystem maybe a little further out than we all want.

Speaker 2

In the middle of that, we have solutions, whether it's propane gas, the natural gas groups, etcetera. And we're trying to position ourselves to be that bridge in between and bring solutions. So we're going to continue to try and commercialize that across Europe and of course in our aftermarket around the world.

Speaker 4

Thanks so much. I've got a couple of follow ups. So I'll take them offline. Thanks guys.

Speaker 3

Yes. Okay. Thank you.

Operator

Thank you. And our next question comes from Rob Brown of Lake Street Capital Markets. Your line is open.

Speaker 6

Hey, Rob.

Speaker 8

Good morning. Good morning.

Speaker 3

Good morning.

Speaker 8

First question is on the sort of demand environment in the European HPDI market. I think that's been sort of coming back, but what's sort of your sense on how that looks over the next 12 months and some of the macro drivers there?

Speaker 3

Yes, I

Speaker 2

think, obviously, I mentioned just a moment ago, the view of where hydrogen is going to coming in, in terms of the ecosystem, the entire ecosystem, I think the European market is starting to adjust to that future being a little further off. Therefore, they're turning back to the alternative fuels aside from the fuel cells and the battery electric solutions. Clearly, alternative fuel ice engines are going to be gaining some momentum and some market share in Europe and we're excited about that. We're also working to figure out how to get it in North America, how to commercialize it with different OEMs in North America, including Volvo. But I think the current HPDI system on LNG has a very strong future here in Europe.

Speaker 8

Okay. Thank you. And then on the cost

Speaker 7

reduction efforts, you talked a

Speaker 8

little bit about some surprise. But could you give us a sense how far you are into that and how much is yet to go?

Speaker 2

Yes, we've been digging in pretty aggressively across the company, both at a corporate level for corporate costs and which Bill can talk a bit about. And then, operationally, across the various segments, whether it's the light duty business or even the joint venture. We're trying to make ourselves a much more right sized and efficient business across the board. And one of the challenges is, I think we've talked about in previous calls is the timing of making change in operations. So for instance in Europe, a lot of the cost savings that we want to initiate there take capital and take time.

Speaker 2

You can't just hit a switch and take costs out of a business in Europe like we could hear for instance. So are we a third of the way into it? Probably, I'd say we're a third of the way into it. And so and it's also a balance, right, a balance between where we're cost cutting, where we're investing for the future to take advantage of growth opportunities. So it's a bit of both.

Speaker 8

Okay, great. Thank you. I'll turn it over.

Operator

Okay. One moment. The next question comes from Jeff Osborne of TD Cowen. Your line is open.

Speaker 2

Hi, Jeff.

Speaker 7

Thank you. Good morning. Thank you. Two questions. One is, do you have a sense of on the kits that are in inventory at your partner in Europe, what you've sold in versus the sell through of those vehicles and how long that pressure will be there?

Speaker 7

Is that something that will be resolved this calendar year or no?

Speaker 3

Yes, we expect Yes.

Speaker 2

Go ahead, Bill.

Speaker 3

I can answer. So yes, it's heavily impacted our Q1. It did we did have some impact in the second quarter early in the second quarter. And we actually started seeing the volume start ramping up throughout the quarter. And those will continue to increase throughout the Q3.

Speaker 3

As we work closely with our customer, As Dan mentioned, they've just grown rapidly and they haven't put the controls and processes in place to manage their inventory. So we've gotten more actively engaged with our customer to be able to manage that and have better foresight for their needs, their production needs, inventory needs. So that business has been recovering during the quarter and will continue in the Q3.

Speaker 7

Perfect. And then my last question is just how to think I think Eric asked questions on OpEx and how to think about that and how you're aiming to reduce that. But how should we think about CapEx for the second half? That's unclear to me. Maybe it's buried in one of the documents, but what historically has been the split of CapEx

Speaker 3

for the JV? Yes. Well, I think a big chunk of the CapEx investment this year, historically, we've been in, call it, $13,000,000 to 15 this year, historically we've been in, call it, dollars 13,000,000 to $15,000,000 It's going to run a little higher this year because we've been investing in CapEx to support the our OEM customer for LPG components for Euro 6. So we've been investing heavily in new CapEx. I think for the back half of the year, it would just be slightly lower than what we spent in the first half of the year.

Speaker 3

And then I think that will be the bulk of the CapEx spending that we need to do to support our OEM customer for delivering 6 components. And then as we go through this, we will have to recast. Our CapEx run going forward now to the all the HBI activities are in the JV that will decline as well.

Speaker 7

So is it feasible that that number could be less than $10,000,000 next year?

Speaker 3

It could be. We're actually just kicking off our annual budget process. And as part of that process, we do a deep dive in what our CapEx needs, what are the various programs. And so we're going through that right now.

Speaker 7

Perfect. That's all I had. Thank you.

Speaker 3

Okay.

Operator

Thank you. I'm showing no further questions at this time. I would like to turn it back to Dan Stelai for closing remarks.

Speaker 2

I'd like to thank everybody for joining us today and I hope we answered all your questions and look forward to the further calls throughout the day. That's all. Thank you.

Operator

This concludes today's conference call. Thank you for participating and you may now disconnect.

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