Fluence Energy Inc

NASDAQ:FLNC

Earnings Call Analysis

Solid Q3 Performance and Positive 2024 Outlook

Q3 revenue soared to $536 million, marking a 124% year-over-year increase, as the company efficiently processed more than half of its revenue from legacy backlog. Adjusted gross margin dropped slightly to 4.4% due to one-off legacy issues, but a rebound to around 10% is projected for Q4—setting a precedent for fiscal 2024. The company anticipates a revenue range between $2 billion and $2.1 billion, backed by a strong demand pipeline, disciplined overhead management, and Q3 cash generation. Cash levels in Q4 are expected to break even, with no need to raise capital for 2024, and a commitment to maintaining liquidity. Growth expectations for 2024 are bullish, with a 35% to 40% trajectory confidently supported by the current backlog.

Revenue Uptick and Backlog Growth

The recent earnings call brought forth a tide of optimism as the company recorded revenue of $536 million for the quarter while witnessing a surge in demand with new orders approximately reaching $565 million. Notably, the Solutions business contracted 1.4 gigawatt hours, and the Digital business added nearly 1 gigawatt of new contracts. Their contract backlog increased significantly, attaining a commendable figure of $2.9 billion as of June 30.

Adjusted Gross Profit and Future Margins

Despite a marginal decrease in adjusted gross profit margins from 4.6% in the previous quarter to 4.4%, mainly due to a delay from a noncore supplier, the company is optimistic. They anticipate reaching double-digit gross profit margins in the fourth quarter. This slight setback is viewed as an isolated incident not expected to affect the company’s steady progress towards their targets.

Delivering on Digital and Service Commitments

The company's Services and Digital businesses, which are recurrent revenue streams, continued to show solid performance. The deployed service attachment rate has consistently remained above 90%, showcasing a strong and sticky customer base. Moreover, with the introduction of an artificial intelligence-based predictive maintenance feature, the company reinforces its digital service offerings, further cementing its trajectory towards meeting digital business objectives set for 2025.

Guidance Raise and Supply Chain Improvements

The company has raised its fiscal year 2023 guidance for both revenue and adjusted gross profit, buoyed by strong project execution and improved supply chain operations. The revised revenue guidance stands between $2 billion and $2.1 billion, up from the previous range of $1.85 billion to $2 billion. Moreover, the adjusted gross profit guidance has tightened to $117 million - $132 million, indicating a positive trajectory. They also reiterated their pursuit of adjusted EBITDA breakeven by the fourth quarter.

Strategic Supply Agreements and Market Share

A significant milestone was achieved through the signing of a U.S. cell supply agreement with AESC, affirming the company's first-mover advantage by positioning to be one of the first to offer a product eligible for a 10% investment tax credit bonus. This is part of a grander scheme of supply chain diversification and competitiveness. Additionally, the company is on track to start manufacturing battery modules in Utah by summer 2024, qualifying for a $10 per kWh incentive, underscoring their strategic stride in manufacturing efficiency and market share expansion.

Solidifying Future Growth

The current momentum is expected to carry forward, with the energy storage demand pipeline reaching $12.4 billion, an increase from the last quarter. The company affirms a consolidated revenue growth forecast of 35% to 40% for fiscal year 2024 relative to the increased figures for fiscal year 2023. They've secured battery supply for 2024, paving the way to meet revenue targets with an established solid demand foundation.

Maintaining Financial Health

Operational discipline has led to a third-quarter cash balance increase to $416 million, indicating effective inventory management and improved collection processes. The company also boasts $165 million in undrawn revolver capacity and $80 million in unused supply chain financing for additional liquidity. With the installation payment plan set for the U.S. battery cell supply agreement, they are well equipped with financial measures to safeguard and ensure operational continuity as they march towards fiscal year 2024.

Outlook Amid Emerging Market Dynamics

While the U.S. market has not exhibited significant change post-Inflation Reduction Act guideline release, the company acknowledges heightened activity in European markets such as Germany and the Nordic countries, hinting at potential demand uptick. Additionally, Canada, particularly Ontario, is surfacing as a promising market. The overall demand landscape appears robust, reiterating the company's confidence in achieving near breakeven adjusted EBITDA in the fourth quarter and a positive outcome in 2024.

Earnings Call Transcript 2023-Q3

[Operator]

Thank you for standing by, and welcome to the Fluence Energy, Inc. Q3 2023 Earnings Conference Call. [Operator Instructions] As a reminder, today's call is being recorded.

I would now like to turn the call over to your host, Mr. Lex May, Vice President of Investor Relations. Please go ahead.

[Lex May, executive]

Thank you. Good morning, and welcome to Fluence Energy's Third Quarter 2023 Earnings Conference Call. A copy of our earnings presentation, press release and supplementary metric sheet covering financial results, along with supporting statements and schedules, including reconciliations and disclosures regarding non-GAAP financial measures are posted on the Investor Relations section of our website at fluenceenergy.com.

Joining me on this morning's call are Julian Nebreda, our President and Chief Executive Officer; Manu Sial, our Chief Financial Officer; and Rebecca Boll, our Chief Products Officer.

During the course of this call, Fluence's management may make certain forward-looking statements regarding various matters relating to our business and company that are not historical facts. Such statements are based upon the current expectations and certain assumptions and are, therefore, subject to certain risks and uncertainties. Many factors could cause actual results to differ materially. Please refer to our SEC filings for our forward-looking statements and for more information regarding certain risks and uncertainties that could impact our future results. You are cautioned to not place undue reliance on these forward-looking statements, which speak only as of today.

Also, please note that the company undertakes no duty to update or revise forward-looking statements for new information. This call will also reference non-GAAP measures, which we view as important in assessing the performance of our business. A reconciliation of these non-GAAP measures to the most comparable GAAP measure is available in our earnings materials on the company's Investor Relations website. Following our prepared comments, we will conduct a question-and-answer session with our team. [Operator Instructions] Thank you very much. I'll now turn the call over to Julian.

[Julian Jose Marquez, executive]

Thank you, Lex. I would like to send a warm welcome to our investors, analysts and employees who are participating on today's call.

This morning, I will provide a brief update on our business, and then review our progress on our strategic objectives. Following my remarks, Manu will discuss our financial performance for the third quarter as well as our outlook for the rest of the fiscal year.

Starting on Slide 4, with the key highlights. I'm pleased to report that, in the quarter, we recognized $536 million of revenue. We continue to experience strong demand as new orders were approximately $565 million, highlighted by our solution business contracting 1.4 gigawatt hours and our digital business adding nearly 1 gigawatt of new contracts. Furthermore, our signed contract backlog as of June 30 increased to $2.9 billion.

Turning to adjusted gross profit. We delivered $24 million or a margin of approximately 4.4% for the quarter. This is slightly lower than the Q2 level of 4.6, primarily because of one project that experienced delay from a noncore supplier. This was an isolated incident, which would not hinder us from our expectation of achieving double-digit gross profit margins in Q4.

Lastly, our services and digital business, which represents the sum of our recurring businesses. We continue to see traction. Our deployed service attachment rate, which is based on our cumulative active service contracts, relative to our deployed storage, remains above 90%. As we have noted previously, we typically see a lag between signing solution contracts and entering into a service contract, which is why we believe that cumulative attachment rate is a better metric.

Turning to our digital business. We had a very strong quarter as we were able to contract nearly 1 gigawatt. However, our digital assets under management at the end of the third quarter was slightly lower than the second quarter level as a result of a customer not renewing its contract with us. This slight decline will be more than offset as the new contracts not yet deployed moved from our digital backlog to our digital assets under management.

While we don't like losing customers, the nonrenewal is within our expected 5% rate for churn or customer attrition. Our low churn rates highlights the general stickiness of our customer base. Overall, we still have a lot of work to do regarding our digital business, but we're on track to deliver on our commitments.

Turning to Slide 5. I'd like to discuss the five strategic objectives that we highlighted previously and provide you with an update on our progress. First, on delivering profitable growth. I'm pleased to report that we are raising our fiscal year '23 guidance for both revenue and adjusted gross profit.

As Manu will discuss in more detail, we're able to raised our guidance due to better project execution, thanks in a large part to our supply chains improving. Additionally, we are reaffirming our expectations that we will be close to adjusted EBITDA breakeven in our fiscal fourth quarter.

Second, we will continue to develop products and solutions that our customers need. As such, I'm pleased to report that we signed a 400-megawatt hour contract that will utilize Northvolt batteries. This is a significant milestone, and this will mark our first major project that will utilize European manufacturer batteries and illustrates our commitment to diversifying our supply chain.

Third, we will convert by changing into our competitive advantage. I'm pleased to say that we have signed a U.S. sales supply agreement with ASC, under which we will procure U.S. manufacture battery cells. This is a tremendous achievement for us as we believe this will position Fluence to be one of the first companies to provide customers with a storage product that qualifies for the 10% investment tax credit bonds under the IRA domestic content rules. This contract provides us access to the limited early U.S. cell supply and give us a first mover advantage, which position us to potentially increase our existing market share. As I mentioned previously, this agreement supports our domestic module manufacturing, for which we expect we will capture the incentive of $10 per kilowatt hour, which I will touch on more shortly.

Fourth, we will use Fluence digital as a competitive differentiator and a margin driver. I'm pleased to report that we continue to make progress on our Nispera product road map. This quarter, we launched an artificial intelligence-based predictive maintenance tool, our first artificial intelligence tool for battery storage on the Nispera platform. I will also discuss this in more detail momentarily.

And finally, our fifth objective is to work better. I'm proud to state that Fluence has increased its total cash position by more than $30 million from the second quarter level, further bolstering our liquidity. Our total cash includes cash, cash equivalents, restricted cash and short-term investments.

Turning to Slide 6. Demand for energy storage continues to accelerate. In fact, our pipeline now sits at $12.4 billion, which is an increase of more than $1 billion from last quarter. Additionally, as I mentioned, we saw our backlog increase to approximately $2.9 billion. We expect to see some initial project awards in the second half of this calendar year that are directly attributed to the Inflation Reduction Act. As such, we reaffirm our belief that consolidated revenue growth will be between 35% to 40% in fiscal year '24 relative to our increased revenue guidance for fiscal year '23.

Turning to Slide 7. As I mentioned earlier, we have secured an offtake agreement with ASC for U.S.-made battery cells. This agreement strengthens our capacity to offer customers a storage product that we expect to qualify for the additional 10% investment tax credit. A bonus granted to products complying with the prescribed criteria for domestic content under the IRA. We expect the first U.S. cells to be delivered in calendar year -- in calendar Q4 of '24.

Additionally, we're still on track to begin manufacturing our battery modules in our facility in Utah in the summer of '24. We know that the battery modules will produce starting in the summer of '24 to qualify for the $10 per kilowatt hour incentive and will support the offering of a product compliant with the IRA domestic content requirements upon the integration of U.S. manufacturer cells in the -- in Q4 of '24.

In regard to our U.S. module manufacturing, we do not expect that we will capture incremental margin as a result of manufacturing our own modules in the U.S. Instead, we expect the $10 per kilowatt hour incentive will go towards offsetting the cost of reaching economies of scale.

From an accounting standpoint, our current expectation is that we will account for the $10 per kilowatt hour incentive on our income statement as a reduction to cost of goods and services. Furthermore, we expect to elect the direct pay provision for the first 5 years of the credit. The exact timing of the cash payment is expected to lag our accounting recognition, thus we expect it to be in conjunction with our federal income tax reform.

With respect to the U.S. manufacturer product, we're exploring whether our first-mover advantage will allow us to share some of the benefits our customers will enjoy from our offering and thus, provide us with incremental margin. It's too early to define a concrete view. But as the situation evolves, we will provide more color on this potential upside.

As you may have seen earlier this summer, the U.S. Treasury Department released its domestic content regulation. Overall, we're pleased to see the regulations. However, there are still outstanding questions that we're hoping the IRA will clarify by the end of the calendar year.

Turning to Slide 8. I'm pleased to announce we recently launched an artificial intelligence-based predictive maintenance feature for battery and storage as part of our Nispera offering. This is our first Nispera artificial intelligence-based feature, following the success of the AI capabilities on our Mosaic building application.

Nispera AI-based predictive maintenance feature is an advanced solution, designed to upgrade the performance and reliability of an e-store system. By harnessing the power of artificial intelligence model, this [indiscernible] technology prioritizes and acts upon the storage performance issues, thereby significantly reducing downtime and ensuring uninterrupted power supply.

From a customer standpoint, the AI-based predictive maintenance figure offered by Nispera will provide numerous benefits, including minimized downtime, significant maintenance cost savings, enhanced asset reliability, optimized maintenance scheduling and improved safety. I'm pleased to say that we've deployed this solution onto its first project in California. More importantly, this feature provides another tangible proof point that we're on track with our digital business commitment, which we say will not be meaningful before 2025.

In conclusion, I'm pleased with the achievements of the third quarter. Although we're mindful there's still work to be done, we will look to continue this momentum as we progress through the remainder of the year.

I will now turn the call over to Manu.

[Manavendra Sial, executive]

Thank you, Julian. I will begin by reviewing our financial performance for the third quarter and then discuss our guidance for fiscal year 2023. Please turn to Slide 10.

Our third quarter revenue was $536 million, 124% above prior year. We continue to execute well as we work through our legacy backlog, which accounted for more than half of our revenue in the third quarter. As we alluded to on our last call, third quarter had a larger impact from the roll off of our remaining legacy contracts than we expect to occur in the fourth quarter. We continue to anticipate a majority of our lower-margin legacy backlog will be turned over by the end of this fiscal year, though, as I've indicated previously, a small portion will bleed into fiscal year 2024.

We generated approximately $24 million of adjusted gross profit in the third quarter, which was an adjusted gross margin of 4.4%, slightly lower than the second quarter level. As Julian mentioned, the driver of the decline was one specific legacy project that incurred delays driven by a noncore supplier.

More importantly, for the fourth quarter, we expect our margin to be about 10%, which reflects an increased weighting of the higher quality higher-margin orders that we have recently signed relative to prior years and expect this to be a good proxy for the expected margins in fiscal 2024.

Third quarter operating expense, excluding stock compensation, was $54 million or approximately 10% of revenue, which is lower than prior quarter in absolute terms, though up just slightly as a percentage of revenue. We remain disciplined about holding our operating expense growth to less than 50% of revenue growth and expect this model to create operating leverage in 2023 and beyond. This is also reflected in the year-to-date third quarter operating expense as a percentage of revenue, which is 10.9%, down from 17.2% in year-to-date third quarter 2022.

Turning to our cash balance. I'm pleased to report we ended the third quarter with $416 million of total cash, including short-term investments and restricted cash. This represents an increase of more than $30 million from the second quarter. Rounding out the balance sheet discussion and in line with previous communication, we saw a decrease in inventory of approximately $250 million in the third quarter relative to the second and continue to see improvements in inventory turns. This, coupled with improved collections, drove the increase in our cash balance. In addition, we ended the third quarter with $165 million of undrawn revolver capacity and $80 million of unused supply chain financing, providing us additional sources of liquidity.

Please turn to Slide 11. I'm pleased to report we have increased and narrowed our fiscal year 2023 guidance ranges for both revenue and adjusted gross profit. We now expect our total revenue to be between $2 billion and $2.1 billion, which is up from our previous revenue guidance of $1.85 billion to $2 billion.

As Julian indicated, we are maintaining our outlook for 35% to 40% revenue growth in 2024 despite the higher 2023 revenue guide, as we continue to benefit from growing demand and strong supply chain assurance, though we expect roughly 75% of 2024 revenue to be generated in the second half of the fiscal year based on the current contract schedules we are seeing.

We have all of 2024 battery supply secured, and the continued improvements in our supply chain position also helped support incremental increase in 2023 revenue guidance compared to prior estimates. We have also narrowed our guidance for adjusted gross profit to be between $117 million and $132 million, which implies a slight increase at the midpoint from our previous guidance of $110 million to $135 million.

As we have indicated on our second quarter conference call, we expect to be close to adjusted EBITDA breakeven in the fourth quarter 2023. As we focus on achieving adjusted EBITDA profitability for fiscal year '24 and beyond, we intend to provide formal guidance for fiscal 2024 for both revenue and adjusted EBITDA on our next earnings call, while continuing to provide transparency of other key operating and modeling assumptions.

From a cash standpoint, we expect our fourth quarter total cash levels to be near breakeven, and we believe we have ample liquidity to meet our 2024 revenue targets. Please note that our U.S. battery cell supply agreement currently calls for a down payment of $150 million to reserve this capacity, which will be paid in installments over fiscal year '24 and fiscal year '25 and will be funded by our liquidity and customer deposits for these batteries. The first $35 million will be paid in the first quarter of fiscal year '24 and another $35 million will be paid in the second quarter of fiscal year '24.

Before I turn the call back to Julian for final comments, I would like to reiterate that we continue to see strong demand, which is reflected in the significant growth of our pipeline, which gives us confidence that we will be close to adjusted EBITDA breakeven in the fourth quarter and generate positive adjusted EBITDA in 2024.

With that, I will turn the call back to Julian.

[Julian Jose Marquez, executive]

Thank you, Manu. In closing, I would like to reiterate what I consider to be the key takeaways from this quarter results. First, we had a solid quarter in terms of our financial performance, clearing out much of our legacy low-margin contracts, while generating cash and raising our guidance yet again. We have also reiterated our expectations that we will be close to adjusted EBITDA breakeven in our fourth quarter.

Second, we have taken steps to secure our future by locking up our fiscal year '24 battery supply as well as locking up early domestic battery cell production, providing us a clear first-mover advantage.

Third, we launched our new AI-based feature for Nispera to help provide our customers with additional tools necessary to lower the total cost of ownership.

This concludes my prepared remarks. Operator, we are now ready to take questions.

[Operator]

[Operator Instructions] Our first question comes from the line of James West of Evercore ISI.

[James West, analyst]

Good quarter and the outlook looks very strong. I was curious, as we've had IRA guidance provided now and we obviously know -- you and I know kind of the demand drivers here for energy storage. Has there been any net change in that demand, either up or probably -- up or down but probably up with pure guidance out there for the U.S.? And then how are you guys thinking about also the European markets as they start to figure out the green industrial plan that they've put out there?

[Julian Jose Marquez, executive]

In terms of the U.S., I don't think we have seen a major movement since the guidelines came out. So it's in line with what we said that for a total demand, 35% to 40%, and that's what we're guiding revenue for next year. And the U.S., a little bit higher than that.

For Europeans, we do -- we are seeing some -- a little of the markets being a lot more, I would say, moving a lot. So where -- first, Germany, I think. Germany was a market where was incipient. Now we see a lot more activity. And then the Nordic countries, is another group where we are seeing now a lot more demand.

I don't think this is enough today to go for a review in our 35% to 40%, but good signs, especially Germany being such a big economy. I'm sure it's going to be a competitive market. So it will be a fun ride for us, but that might be meaningful. But that's kind of where we are. I think we feel we're very confident about 35% to 40% for next year and positive that we will see demand getting better.

The other one we're seeing that, maybe, is Canada, which was something that I think I talked about with some of you before. We start seeing demand in Canada, mostly in Ontario. And that has been very, very -- that's also very, I think, meaningful. And it could be a huge market.

And that proves a point. I think that if I can make maybe a little bit of an add. As you know, the Canada electric city has a lot of hydropower. And a lot of people, when they see hydropower, they don't see a need for battery storage. And our view is that reservoirs do their jobs. Our job is completely different. We provide services to the grid to ensure stability, to move capacity faster or fast response to provide block starts. These are things that are not necessarily reservoirs can do. So it really proves a point that even hydro systems or systems that have a lot of hydro capacity need dramatic storage to ensure that they can add up to a new power center landscape.

[James West, analyst]

Okay. That's very interesting. And then a question on Nispera, the adoption of Nispera. How is that -- you put much more emphasis the last couple of quarters on that, the adoption rate on the software side of the business. How is that progressing?

[Julian Jose Marquez, executive]

We signed like around 1 giga. It was mostly Nispera. We have some Mosaic there, and it's doing very well. I think the fact that we have the first integrated portfolio management, asset performance management tool that covers all the renewal technology storage, wind, solar, really makes a difference. And it has really helped us. We're very, very happy with it.

I think these new tools that we just announced, the maintenance tool, [indiscernible] beginning, this one is based on temperature readings, but there's [indiscernible] charts, state of chart. There's a lot more -- the batteries are very, very rich in data. So there's a lot of value we will create by harnessing that data and convert it into information that our customers can use to manage our systems a lot better.

[Operator]

Our next question comes from the line of Brian Lee of Goldman Sachs.

[Brian Lee, analyst]

Kudos on the solid execution here again. Question, I guess, on margins. It's a high-quality problem to have, but you seem to have gotten through a lot of the backlog that had some of the lower margin, less profitable projects, Q4 guide, or I guess, the annual guide here for the rest of the year implies Q4 is going to be somewhere in the like 11% range, if my math is right.

So I know you're talking more about like 10% for '24 and you're going to give us more of an official view here in the next quarter, but what are kind of some of the puts and takes between the 10% and 15% long-term guide? And then mapping that to 24% given you're sort of at a good exit rate here for '23, and it seems like a lot of those legacy projects are now off the books or mostly off the books?

[Julian Jose Marquez, executive]

Yes. [indiscernible]

[Manavendra Sial, executive]

Yes, absolutely. So Brian, there's a lot to unpack in your question. So let me go take it piece by piece. So I think just from how to think about the '24 margins, we are signing contracts in the 10% to 15% margin range, and that is still the case.

And -- but the Q4 margin is a good proxy for how to think about '24 margins, right? And then as we have a little bit more contribution from our services business and our digital business maybe ticks up a little bit, but Q4 is a good proxy for '24, and that will continue to increase as we go from '24 to '25. So that's one.

In terms of legacy, you're right, we are done with most of our legacy projects. I think there's about $100 million to $150 million that trickles into '24, mostly done in the first half of the year. So as you do the quarterly profiling and the calculus of '24 margins, keep that in mind.

And then you're right, the business is performing really well. I would want to point out the fact that: one, we've been fairly disciplined from an overhead perspective. And that's important because as we turn the page to '24, the focus is going to be a lot on EBITDA dollars, right? That is a better measure of profitability than gross margin or gross margin percent.

And I think that's what we want the investor community to be focused on. And that's reflected in our comments that we get close to EBITDA breakeven in the current quarter or in the fourth quarter.

And then I'll round up my comments from a cash perspective. We generated cash in the third quarter. My comments talked about cash breakeven in the fourth quarter, which means we'll generate cash in the back half of the year. So that is another area we are focused on. So EBITDA and cash becomes much more relevant than gross margin, gross margin percent.

My last comment before I pass it on back to you is we've been very pleased with the performance of the business. And what that's got us is, it's got us to be Big C-enabled. So Big C is well-known season [ issuer ]. And we intend to file a universal shelf tomorrow after the market for good housekeeping. And that's really reflective of the confidence that the shareholders have placed in our business that allows us to be a Big C now.

[Julian Jose Marquez, executive]

My only comment on the filing is that we do not intend to raise -- we have no plans to raise capital in any way during -- for '24. We don't need it, but I think this is just for housekeeping.

[Manavendra Sial, executive]

Yes. And that is consistent with the comments that we had in [indiscernible].

[Julian Jose Marquez, executive]

Right.

[Brian Lee, analyst]

Okay. Yes, fair enough. No, I appreciate all that additional color. I guess second question, shifting to maybe the top line here. I know even with the pull forward, it seems like you had here and being able to raise the '23 guidance, you're comfortable with the 35% to 40% growth trajectory into '24.

Can you maybe give us a sense of how much of that is just additional demand, bookings activity you're comfortable with heading into next year? And how much of that is maybe conversion time lines? It seems like some of those are maybe pulling in a little bit. If you can provide a little bit more color around that and then I'll pass it on.

[Julian Jose Marquez, executive]

Yes. We're kind of -- the way I will maybe phrase it is that when you looked at our backlog and you looked at our '24 revenue, we're covered right in line with where we were last year. So we feel very, very confident that for what -- the backlog that we will convert in '24 is what we will do this quarter and next, that we will be more than enough to meet the 35% to 40%. So we feel very, very confident about it.

So we will provide you exactly how much of our '24 -- of our revenue is covered by backlog in our next earnings call. We will provide guidance on '24. So I want to get ahead of ourselves, but we are in a similar position to where we were last year when we were doing this year's planning process. Our plan is to provide guidance on '24 in the next earnings call in late November.

[Operator]

Our next question comes from the line of Justin Clare of ROTH.

[Justin Clare, analyst]

I wanted to ask you about a project time line. So this quarter, you increased the revenue guide again here. And so I was wondering if you're seeing project time lines further compress? I think you were at around 18 months a little while back here, but things have been trending lower. So where are time lines today? And do you see a path to continuing to shorten the time line potentially to a time frame of 12 months, say?

[Julian Jose Marquez, executive]

In general, we don't see time lines compressing. So we're -- I think that -- as we look at our financial planning, we see still projects around the 18 months that we told you. This is a line that we want to work on. And I think this is something there's work to be done.

Clearly, there are two drivers for this. One is supply chain and the lead times we need for our supply chains to deliver the products on time. And the other one is ensuring that our customers are ready with the infrastructure. So between the two, I think, that -- today, I think we can work with the supply chain to accelerate it. There are our customers. We can also help them to extend, but there's a limit to that. But today, what we have is an 18-month plan. I mean I think you haven't gotten any better.

[Justin Clare, analyst]

Got it. Okay. And then I just want to ask also about your U.S. manufacturing. You signed an agreement here with ASC. How much of that agreement really covers your need for U.S. cells? Does that cover all of your anticipated U.S. cell supply? Or are you looking for additional suppliers potentially?

And then also maybe if you could just speak more broadly about the plan for potentially expanding your capacity footprint in the U.S. I think your plan is 6 gigawatt hours in fiscal '24. How should we think about potentially moving above that?

[Julian Jose Marquez, executive]

Yes. I think that in terms of -- we believe this deal which was signed will essentially cover a large amount of our U.S. demand. We believe that the U.S. market will -- there will be a competition between U.S. manufactured sales and imported sales, and we will be working on both sides of that fence. And so -- but we believe that what we have is enough for our expected demand for the next years.

Sorry, your second question, if you don't mind repeating Justin. I don't know if I got it. Sorry -- module manufacturing, sorry. On module manufacturing, we are -- we built this plan with the ability to increase the output if we want for the module manufacturing. We mostly -- it depends on how it goes. We can very, very quickly -- this is a -- we can double the production very, very quickly and maybe triple it. So we are -- but we will see how it goes and then make the decisions [indiscernible]. So -- that's a looking at that.

[Operator]

Our next question comes from the line of Julien Dumoulin-Smith of Bank of America.

[Unknown Analyst]

It's actually Alex [indiscernible] for Julien taking the question. Listen, keeping on the theme on sort of the U.S. piece here. Congrats on the ASC, I guess, announcement.

Let me ask you this, how sustainable of an advantage do you think that this is? Is there any sort of, I guess, value wedge that you think you can create there relative to pricing and where you're able to get those batteries? And then I'm not sure if you mentioned it, but are those raw material indexed? I know that you have some sort of indexation on some of the other contracts. Just curious as far as you guys having an early-mover advantage, if you could elaborate on that a little bit?

[Julian Jose Marquez, executive]

Yes. I mean I'll tell you, talking to customers, what I hear from them is that we are the only ones offering this. That we're the only ones talking to them about this. So that's my view.

How long of an advantage? How far away are the other suppliers? I don't know. We -- you'll hear different things from different people. Some people say that they do not believe that the U.S. battery manufacturer will be competitive. Why disagree? And we disagree, and we think we'll show it to them.

We'll see, how long? How far away? How far away? I think that it will be -- in my opinion, it will be very simple. Once they see that we're here that we can do and that we can offer a project that's very competitive, that we can put the U.S. flag on top of it, it's really -- where they can see that, I'll see them try to copy it. And there'll probably be a few years. They had a couple of years behind. It's difficult to know.

Clearly, people don't announce -- I haven't seen any announcements and what I hear from my customers that nobody is talking about this, but that's what I can -- how much -- I guess your second question goes through, can we capture higher margin on this? Or the second part of your question.

Well, we believe that you can -- we have to, but we just started doing this conversation with our customers, and this is a plan that is a little bit complex. So it's very difficult to give a concrete view of where we see that happen. But we do see that our customers are going to get a significant upside and we should share part of it with them as we are delivering this to them.

It will also, for sure, whatever like we said, for sure, it will convert to higher volume. And that because -- as I said earlier, we will work on both offering imported sales and the U.S. content sales. So we will be playing on both sides of the fence. And that's what I think will be the trick here.

We're not going only -- we're not only riding one horse. We work so -- customers who have -- the customer have different preference than customers who do not prefer a U.S. content -- U.S. domestic content compliant solution, we will offer them also a solution, but also not met that. So really -- we're really excited about this prospect. And I think that it will solidify our position in the U.S. market.

[Unknown Analyst]

Yes. No, fair enough. Just two quick follow-ups, sort of cleanup questions, if you will, for me maybe for Manu. Just on the delays in 2Q, should we expect any deferred flowback of LDs? I know you guys have seen that in some historical examples. And then on the deposits piece, I mean do you expect that to be entirely fronted by customers? Or is there some sort of working capital dynamics between cash in from them versus cash [ up the ] -- from you guys on the deposit piece? If you can clarify.

[Manavendra Sial, executive]

Yes. So I think let me take the two questions in order. From a margins perspective, I think any potential LD is the kind of boxed it in really well in our third quarter actuals than our fourth quarter guidance. So I think that kind of clears that.

In terms of how to finance the $70 million of deposits for the first half of '24, I think a good assumption from a modeling perspective is a little over half funded by the customers and the rest funded by our liquidity or any working capital lines that we have.

[Operator]

Our next question comes from the line of Ben Kallo of Baird.

[Ben Kallo, analyst]

So sticking on ASC. Could you guys talk a little bit about your diligence with them and how you chose them? And then I think they have one plant that's operating and one under construction, but where you would begin to sell from -- with them. And then I have a follow-up on different topic.

[Julian Jose Marquez, executive]

Yes. We don't want to disclose too much, but I'll tell you is the reason -- one of the main reasons why we picked them and decided to work with them because we are -- these batteries will come out of our reconverted plan, a plan that's just going through. It is producing and it will reconvert to produce battery cells for the stationary start.

So we believe that in the current environment that they were further ahead than anybody else in offering this, and they already have employees already have, as you know, which is a major issue for some of these plants, they already have the technology. They have the supply chains working very, very well. So the -- very, very good.

And clearly, also ASC is one of the Tier 1 battery manufacturers. They have been working globally or in the U.S. for some time. So that's the reason why we think that they're a good partner. They are in a very, very good position to offer these batteries today.

[Ben Kallo, analyst]

And my follow-up question on different topic is just market dynamics. And I'm thinking about Tesla talking about having pricing power in the market for their storage business. I just wanted to understand if you guys are seeing that and what's causing that? And just the competitive dynamics and how it's changed, either some of your competitors are not as financially strong as you guys or new competitors or anything like that, but then more so on the pricing power?

[Julian Jose Marquez, executive]

I don't think that the competitive landscape has improved to our advantage. Let me put it that way. I think this is a very competitive market. Tesla is a very, very strong competitor and there are others, as you said, there are a lot of small players who might not -- do not have the capacity to the stuff we can offer. But I think we're far away still. I think we are far.

I'm going to say far away but far from the point where the industry consolidates in a way that we are a limited number of players that I don't say we're there, too. So for us, competitiveness is a driver internally to ensure that we did everybody on price, but not only on price, prices, are drivers not the main driver on ensuring our customers have a product that meets their needs. Price being one, our performance, what we do, how they can bank or finance our investments, the type of guarantees we provide them to ensure that they feel comfortable on in our assets going forward.

And I think that we work very, very hard, and we work out every day and we have everybody looking internally. I don't ensure we'll be Tesla and any other one. That's around.

[Ben Kallo, analyst]

Alright, congrats on the results guys.

[Operator]

Our next question comes from the line of Pavel Molchanov of Raymond James.

[Pavel Molchanov, analyst]

2024, so recognizing you're going to give kind of more detailed guidance a bit later by much more back-end weighted revenue picture compared to this year. And I'm just kind of curious why the difference in sequencing?

[Manavendra Sial, executive]

So I think the way to think about '24 from a first half, second half perspective is as follows, right? If you look at how the '23 guidance has evolved, as we have gone about from our original guidance, which I think the midpoint was 1.55 or 1.6 to where we are, which is closer to 2.05, we've kept the growth rate the same, roughly at 35% to 40%, right?

And that adds incremental between $600 million and $700 million of margin and -- sorry, of revenue. And given the cycle times of our projects, that's more back-end loaded compared to the first half, right? So I think the split between first half and second half it is largely driven by the strength of our order book. As we've gone through '23, that has resulted in a higher revenue for '24, but it's coming in the back half of the year.

We feel really confident, and I'll point to the fact that we have $2.9 billion in backlog as we enter the fourth quarter. And more importantly, we have close to $12.5 billion in pipeline. So we feel very good about where we sit for '24.

[Pavel Molchanov, analyst]

Okay. Let me follow up on the digital AUM kind of coming down in the quarter. You mentioned there was a nonrenewal by a particular customer. Is there a certain churn rate or some other way to just think about digital AUM more broadly?

[Julian Jose Marquez, executive]

I mean our churn rate is fairly low, 5%. So -- and this customer that didn't renew essentially is an asset that was sold. They were part of -- that were sold to another company. The company had their own system, and they decided to which, in a way, makes sense, they decided to use the system and used further assets.

I think that this was within our 5% churn. It's very, very low. And we are only, I just raised it because it appeared in the numbers. So I wanted you to be aware of what happened, but we signed more than 1 -- almost 1 giga.

And so we did -- I think it was a good quarter for our digital business, in general. And these things will happen from time to time and as long as they're within the end they are, we have no indications that we will end the year within the 5% churn rate that we usually have -- which you have for this business.

[Operator]

Our next question comes from the line of Kashy Harrison Piper Sandler.

[Kashy Harrison, analyst]

So I wanted to go back to just this discussion on cell sourcing. You're highlighting U.S. health capacity from ASC. You're highlighting Northvolt as well, but obviously, you still have a lot of Chinese cell exposure today. And so -- maybe if you look out a few years from now, is your expectation that your U.S. that you will sign enough U.S. cell capacity just for U.S. projects and then European cells solely support European projects? And then what does that mean for your Chinese exposure again a few years out from where we are today?

[Julian Jose Marquez, executive]

This is my -- I think that, a, I will see today -- in our planning scenario, we don't see a world where the U.S. will be fully supplied by U.S. manufactured cells nor in Europe. So that will take some time. The Chinese manufacturers are -- they do best in need. They have been best, they have [indiscernible]. They started earlier. They have invested a lot in technology. It will take a long time for European and U.S. manufacturers to get there.

So that's the way I see it and that's the way I look -- we want to continue working with our Chinese suppliers, and hope to continue working with them for some time. They provide us with very, very good product. That they have good product road map, and we work with them well. And so we want to continue working with them.

So that's the reality. The other point I will say is that, hey, I want a world where there's free trade. So I want a world where we can buy batteries from many places because I think that's a world that's better for all of us, a world where our technology will continue evolving, where we'll have the ingenuity and the capacity of the U.S. engineers coming up with new ideas and making, but also competing with what Chinese and Europeans are doing. So that's the world I hope that we will have for our industry.

So a little bit our planning reflects that concept. We want that world. That's a world we think that is a world that is better for our technology and better for our standard of living. For we need to -- also we will be able to properly address the challenges of climate change. If we try to do each region or each country apart, we need to cooperate and work together. And that's what -- so that's the way we see it.

[Kashy Harrison, analyst]

And then maybe a follow-up question for Manu. I appreciate the commentary on cash for Q4. But maybe just on a multiyear basis or maybe have been a target basis. Can you just help us think through what the -- what you think the cash conversion of this business is? Once you hit your targeted long-term margins, do you think this is a 50% EBITDA to free cash flow business? Is it 60%, 70%? Just some thoughts on how you expect EBITDA to convert to free cash long term.

[Manavendra Sial, executive]

So Kashy I think we laid out a cash model maybe two earnings calls back. And I think that's a good way to think about the model going forward, right? And the model goes something like this, right? We have our EBITDA. We have some amount of CapEx. And in the last few years, it's been high single digit, low double digit. That will opiate a little bit depending on specific needs of the business.

And then from a working capital piece, which is the heart of your question, I think what we've said is take the revenue growth year-on-year and take 10% of that as a proxy for the working capital usage. And I think that's a pretty good model to think about as you plot out the next couple of years when we get to positive EBITDA territory and beyond.

[Operator]

Our next question comes from the line of Tom Curran of Seaport Research.

[Thomas Patrick Curran, analyst]

Over in the EU, when it comes to this churning skew of policy proposals, initiatives, regulatory changes, that the European Commission has been cooking up in Brussels, whether it's the green industrial plan, repower EU or this just past renewable energy directive, is there anything in there that's specifically targeted towards the stores [ this ] transmission market and expect it to expand and/or accelerate your set of storage as transmission opportunities?

[Julian Jose Marquez, executive]

That -- the transformation rules are very, very local. So we have to work market-by-market. As you know, there is a transmission systems for all of Europe. But we had work -- the work we're doing today is market-by-market, what we have done in Germany, what we have done in Lithuania. We have not engaged from a pan-European type of process.

I think that will take us time. The -- generally, the way you should think about Europeans is that the way they regulate the transmission system is free access and -- essentially free access, let's put it that way. And that means that it allows for -- you need to allow energy coming from third parties.

In terms of what we are trying to do, a regulatory challenge when we go into this asset, it's a simple one. It's the following, is that most regulatory systems, restrict transmission operators from dispatching assets. However, when you put the battery support the transmission line, the system operator or the transmission owner needs to dispatch assets, needs to use the battery storage as a demand or a dispatch or charge it. And that has created some sort of a legal question for -- that we were able to refer in Lithuania. We were able to resolve in Germany and that we're working to resolve in other places, the U.K. and in Ireland.

But it is a challenge for some of the regulators because, in a way, it questions the segmentation of our industry. Our industry segment, as you know, in demand or distribution, transmission and generation and the views that the treat should be very, very separated, the way to create values by having them be very, very independent.

So demand cannot on transmit distribution. Transmission cannot dispatch generation, all these things that all these rules. I think as our technology goes into the grid, that segmentation blurs. And that's what -- that's the challenge we have. And the challenge we have in the U.S., and that's a challenge we have to call.

I think that this will happen, and they will have to be a regulatory -- and we have been able to successfully resolve it in Germany and in Europe, but it is something that we need to work with all the regulatory players as we move forward.

But I don't -- the -- I don't see a pan-European solution for this. This is more of a local issue where we need to work with the local system operators and system regulators.

[Thomas Patrick Curran, analyst]

That's very helpful clarification. And then Manu, in the quarter, you incurred CapEx of $7.3 million related to software investments. Would you expound upon the nature of that spending and provide us with an estimate of software CapEx for fiscal '24?

[Manavendra Sial, executive]

Yes. So let me help start with your '24 question first and then kind of bring it back because I think it goes to our long-term view on how we think about software and as a key driver of the business. right? So I think we've talked about, call it, double digits, low double digits type of CapEx spend. That includes capitalized software as well. And I think it's both our own parties, our employees as well as any third parties that kind of help develop from a software perspective. It covers both our operating system projects that we are doing as well as the digital initiatives to advance both Nispera and Mosaic and that adds more capabilities to our current functionality. So that kind of encapsulates where we've been spending money for this quarter and going forward. But I think the overall capitalized software is part of our $10 million, $15 million.

[Rebecca Boll, executive]

Yes, sure. So this is Rebecca. And I'll tell you from my perspective of leading the technology team, we have a large group of people who create the operating system software platform and we're actually reinvigorating that platform right now. And that's a big part of how we see the money -- the estimates in for capitalization.

We follow along our product development plans to create new functionality on that software for the different markets, and that mostly is labor, and that labor turns into an opportunity to capitalize it.

As Manu mentioned, that's also paired with the investment that we make in our cloud-based software. And again, mostly, that's labor and delivering some of the new functionality, as discussed today, some of that artificial intelligence-based functionality. But all that labor that goes into creating the different software offerings and leads into a capitalization effort.

[Operator]

Our last question comes from the line of Craig Shere of Tuohy.

[Craig Shere, analyst]

So first, I wanted to dig in a little bit on the European transmission answer to Tom's question. I did notice the New York ISO was studying energy storage as transmission. And I think you'll find a little bit on the last earnings call about other markets having to address this and having issues. I believe you're mentioning Latin America at the time.

Could you opine on the prospects of working through the system by system issue worldwide and being one of the top 3 or 4 companies in the world that can even do this? How big a market this could be in 5 years?

[Julian Jose Marquez, executive]

Let's start with the last part of your questions. This, we believe, could be a material driver for our performance. We have the Standard & Poor analysis, it's a little bit still to go 30 gigs by 2030, I think it fell when you really look at the challenges that transmission has globally. The -- in terms of our -- I understood the first part of your questions, how's our [indiscernible] effort? And are we making progress?

This is -- as I said earlier, this has to be -- I don't think we need to do this regulator by regulator and one by one. And our team identifies where we believe we have the highest chances of -- the highest chance of success and then that's what we work for our team in -- and this is what we did this with AES. As a partner with AES, we have been very successful in Chile [indiscernible].

We're working some of jurisdictions in the U.S. and we have success depending on where we are. But I think after this over, and all the transmission challenges that we have seen, this is going to become a more urgent matter. And as people will see our projects coming online in Germany, I think we're going to see the U.S. system operators.

They can go on what -- they can see at work and they see all the value you can create. I think that we will see a major, major acceleration of this. That's the way -- so we're very happy.

Unfortunately, today, I cannot announce anything yet, but we're working on a few concepts that hopefully will be come into reality soon. When Standard & Poor's takes another look at this market, it will significantly increase from what they were expecting. I think that analysis that is a couple of years back, it's a little bit stale.

[Craig Shere, analyst]

And I want to dig in a little more on the answer to Pavel's digital question. Is there a trend of customers increasing or decreasing their use of internal systems? Or is the market kind of deciding that specialized third-party digital services is the way to go? Or is it still kind of case by case?

[Rebecca Boll, executive]

So when we talk to customers, we hear the need state for us to provide digital solutions that help them operate these battery systems better. So that's an open space in the market, and that's the one that we're focused on. When you talk about third-party software systems, usually that's related to people that have decided to self-integrate and that's a very specific section of the market.

The -- we're really not competing with that. So we're playing with customers, developers and IPPs that are consuming our products, and they're asking us to provide these digital solutions to help them operate the batteries over the long term. So if your question is, are we competing with self-provided software? I would say not really.

[Julian Jose Marquez, executive]

If I can add one thing. From a product road map view, our concept is to integrate our software solutions into our hardware solutions in a way that there's significant value by having the two, to really create that additional concept. You know, we sell our Mosaic technology to third parties. We sell our portfolio -- asset performance management system to third parties, but we really think that fully integrated into our assets mix will create the ownership of our assets a lot more. It will help our customers reduce the total cost of ownership and make our assets more competitive in the market as that's conceptually what we're doing.

But I would say that today, clearly, our system, everybody from us, our battery management system as we deploy it, it will come from us. Where you see that people might have different systems are in the bidding application because there are other players, even though our integrates, as I said, very, very well with our infrastructure and in performance management tools that there are not that many players who can offer what we do, which is integrating your solar, your renewables and your battery store systems into one system. That's one way.

[Craig Shere, analyst]

As you -- just a quick follow-up. So like 2, 3, 4 years out, as you morph this into a more fully integrated business line that historically wasn't necessarily, do you see the churn that you experienced in this last quarter kind of reducing or going away?

[Julian Jose Marquez, executive]

No, I think that the 5% a year is kind of the way we go. Remember, the bidding -- because this applies to our whole -- our whole offering. Reading applications are competitive market. There will be some people will do it, and then there is also the asset -- the performance management tools also you have third-party competitor. I think 5% is a good number. And for digital applications, it's fairly, fairly low.

Great. I think that this ends for today. So maybe I can just a parting remarks. So we're very, very proud of the work that our team has done here. The turnaround, Manu was asking me earlier today. It's been almost a year since we arrived here. We're very, very happy for the turnaround that our team has done here. Really their eye on the ball on all the drivers that we needed to bring this company to where we are. We are in the brink of getting to our double-digit gross margin and our breakeven point in [ 2000 ] and in the fourth quarter of '24.

So very, very happy with the progress. And this is an industry that is evolving. It's a competitive industry, but we have the desire, the capacity and the ambition to make this great. And I really thank all of you for your questions, your support and the insights you provide us every time we engage with you because that helps us to do our jobs here every day. Thank you very much, and talk to you soon.

[Operator]

Thank you. Ladies and gentlemen, this does conclude today's conference. Thank you all for participating. You may now disconnect. Have a great day.