Eguana Technologies Inc

XTSX:EGT

Earnings Call Transcript 2022-Q4

[Brent Harris, executive]

Good afternoon. Thank you for joining us for Eguana's Fourth Quarter 2022 Earnings Call. My name is Brent Harris, Chief Operating Officer of Eguana. On the call today, we also have Justin Holland, Eguana's Chief Executive Officer; Sonja Kuehnle, Eguana's Chief Financial Officer. Please note that today's call is being recorded. [Operator Instructions]

Before we begin, please note that certain remarks made on this conference call constitute forward-looking statements. Although we believe these statements reflect our best judgment based on factors currently known to us, actual results may differ materially and adversely. Please refer to the company's filings on SEDAR for a more inclusive discussion of risks and other factors that may cause our actual results to differ from projections made in any forward-looking statements.

Please also note, these statements are being made as of today and we disclaim any obligation to update or revise them. All financial data disclosed is represented in Canadian dollars unless otherwise noted. I will now turn the call over to Justin.

[Justin Holland, executive]

Thank you, Brent, and thanks, everyone, for joining us today to discuss the fourth quarter results and the future outlook. Eguana's mission is to become a leader in residential and small commercial grid tied energy storage systems, which we see as a critical component to electrification and migration to a distributed power grid.

As the world continues down the electrify-everything path, we can see in forecasted models that the power grid will be required to more than double the amount of energy by 2050. It should also be noted that these models have been generated with a very conservative view of electric vehicle growth at about half of the industry forecasted growth rates. Grid transformation is now generally accepted as the way forward and our team believes renewables, particularly solar and storage, will be 2 key components of the future grid.

Edison's Grid has served us well. However, we are certainly due for a massive upgrade. The team took another significant step forward through the fourth quarter to achieving this mission by more than doubling our energy storage and our micro inverter shipments. Through strategic relationships with ITOCHU and Western Technology Investment, we significantly changed our working capital position and opened a multiyear operational runway with new investments totaling over $40 million. The strategic investments were also achieved in a very difficult market condition for microcap companies, well done to the team.

This capital was immediately put to use by accelerating our supply chain activities with a $7 million investment into micro inverters for the current quarter and a $10 million investment into battery modules to support our 2023 energy storage growth objectives.

Additional micro inverter orders are planned and currently being procured to satisfy expected demand through March and June quarters. Revenue for the quarter was up 12% versus third quarter results, however, was significantly and negatively impacted by a vessel change in port at September 30. Multiple containers set to leave port were held due to congestion and capacity constraints resulting in the vessel change. This pushed approximately $1.9 million in revenue into our fifth quarter.

Gross margins were again impacted by higher-than-normal logistics costs as well as the remaining costs related to our move to San Jose. We are seeing a downward trend at the moment with respect to container shipping costs, which have now fallen from a 5x increase to pre-pandemic levels to roughly 2.5x pre-pandemic.

Additionally, we saw the final inventory rationalization, which is the sum of the required inventory adjustments related to our inventory transition to Omega within the fourth quarter. Under normalized conditions, which we calculate at 2% freight costs, margins would have been flat to our prior quarter around 7%. We do expect to see logistics costs continue to trend down, which will be a boost to gross margins on a go-forward basis. Sonja will touch on these points momentarily.

We continue to build our nameplate capacity in San Jose with the addition of a second inverter functional test station or IFT, for Eguana Energy Storage Systems, the most time-consuming part of the manufacturing process outside of procurement is manufacturing test time. Each assembled unit takes approximately 45 minutes or 90 minutes for a 10-kilowatt system to functionally test. Each IFT can test up to 10 systems per shift, which is why we place continuous improvement urgency on first-pass yield metrics or FPY.

Omega, our manufacturing partner, was successful in ramping first-pass yields north of 80% within the quarter. As we scale operations and as a result of the current global supply chain and components availability, we do expect to see short-term variability in first-pass yield as new hardware components are tested through the alternative parts program.

Supply chain constraints are being effectively managed through this program. However, we will remain very diligent in selection and testing of components, which may have a short-term impact on the first pass-yield results from time-to-time. To mitigate, the development team has procured the required components to build out 2 additional IFTs which are scheduled to be installed early next year, the third and fourth test stations currently in our lab and Calgary. Once all 4 stations are installed and commissioned in San Jose, nameplate capacity will stand at approximately 20,000 energy storage systems annually.

Critical to our success at Eguana is certainly our people. Over the last year, we have increased global personnel by over 40% with key additions across development and field teams. With this level of growth, company culture becomes critical to keep all team members moving in the same direction. Our culture is a primary focus at Eguana and as such, we brought in senior management, specifically human resources and corporate culture.

Specifically, research and development has increased by over 70% with key additions in Eguana cloud development, mechanical and product development and test. Field teams have grown by over 60% and are inclusive of sales, technical, distribution and installer teams.

We do anticipate further growth in our field teams as we execute the rollout of Eguana on-demand training programs for distribution and installation partners. To attract top talent within the sector and retain our excellent field team members, we also opened Eguana Americas, where we expect additional team growth to occur.

Simplifying installer training and opening up training capacity by switching to an on-demand access, we'll open up further market access to our products. Installation companies are the key group that manages final sales to consumers and can be broken down into sales and installation teams. Product installation training modules need to take this into account, while at the same time, create additional touch points for our internal sales team members.

We have seen early success with some large distribution branches, which has resulted in longer view on demand as well as multiple monthly order cycles. This is a process that can be repeated across similar-sized distribution branches in key installation partners.

We've touched on a number of key areas of success, including strategic investment in working capital, manufacturing capacity planning and first pass yield increases, the alternate parts program to mitigate global supply chain risk and the impact and expectation of on-demand training and of course, the importance of growing the team and continuing to develop company culture.

With that, I'll turn the mic over to Sonja to discuss the specifics of the quarterly results.

[Sonja Kuehnle, executive]

Thank you, Justin, and good afternoon all. Before I begin the Q4 financial discussion, a reminder that earlier this year, Eguana's Board of Directors approved change in the company's year end from September 30 to December 31. This will allow us to have the company's year-end financial statements in line with the majority of our industry peers. Consequently, the financial statements for Q4 2022 are still considered a quarter and the statements for the 15 months ended December 31, 2022, will be presented with comparative information for the 12 months ended September 30, 2021.

On an overall revenue basis, Q4 product sales decreased 16.6% or $0.5 million versus prior year product sales of $3.1 million for the same quarter. As Justin noted, this decrease was driven by vessel scheduling change in the shipping port, which caused delay on expected Q4 revenues, pushing approximately $1.9 million into our fifth quarter. We were on track to set our highest revenue quarter by a substantial margin. However, the revenue pushed from the vessel change to be landed with the second -- with the vessel change we landed with the second highest quarter across the history of the company.

Gross margins for the quarter decreased from 6% in Q4 of last year to negative 9.6% for Q4 of this year. Margins were negatively impacted due to the final inventory rationalizations associated with winding down and transition to Canadian manufacturing ops and transition to Omega.

Additionally, we, as well as much of the markets are still seeing negative impacts and significant fluctuations of COVID freight adjustments, making it very difficult to predict and plan against standard logistical costs related to importing materials into the North American markets.

We continue to see easing of these costs at present. However, there remains both political and supply chain risks related to freight and logistics costs. Operating expenses increased by $0.5 million in comparison to the same period of last year. However, it remained flat to our third quarter. Increases from fiscal 2022, similar to the previous quarter, are related to continued scheme expansion, particularly for sale, after-sale service and R&D, which are in line with Eguana's market growth objectives and 2023 expectations.

Moving to our balance sheet. We significantly strengthened our position having closed a $33 million strategic investment with our partner ITOCHU at the end of August. This alongside WTI waiving conditions in our second tranche and drawing the remaining USD 5 million has seen our working capital hit an all-time company in a high of $41.2 million. This has led to Eguana being in the most stable and liquid position in our history, henceforth, being able to remove our growing concern note within our financial reports and moving towards the nature of operations disclosure. Our financial position is strong with a global supply chain and multiyear operating runway.

Justin, back to you to discuss near-term outlook.

[Justin Holland, executive]

Thanks, Sonja. As we've previously mentioned, we do expect to see micro inverters outpace energy storage systems in the near-term for a host of reasons. Firstly, it is a much more mature market, which comes with an inherent understanding within that market with the installation companies.

Secondly, given the simplified supply chain, there has been consistent supply for manufacturers through the pandemic. And thirdly, it is a competition-light marketplace at the moment with one key manufacturer having roughly 85% of the residential marketplace. As part of the Eguana ecosystem, we have successfully launched the micro inverter into North America under a big brand name. And with the addition of on-demand training programs, we are seeing immediate and positive market feedback. This will continue to drive quarter-over-quarter revenue growth.

From an energy storage perspective, we anticipate seeing an increased attachment rate to the micro inverters. We also anticipate energy storage revenues will overtake micro inverter revenue as the attach rates increase simply related to the selling price of each energy storage system.

Management also believes that with single, dual and quad port micro inverter design and energy storage systems ranging from 3 kilowatts up to 21 kilowatts, Eguana will have the largest residential suite of products available for sale within the industry and available in high-demand markets of North America, Europe and Australia. Brent will touch on our operational activities in Europe and Australia shortly.

Considering the amount of products and materials landed and in transit to North America, coupled with these new training programs, we are set to continue seeing shipment growth in the coming quarters. We noted last quarter some significant changes to the Battery Bonus program in Hawaii, which resulted in new blanket orders. Our expectation was to ship all units prior to the end of the calendar year. We will achieve this target and expect new blanket orders prior to calendar year-end.

On top of the planned demand, we are nearing completion on multiple white label opportunities across multiple markets. White label sales cycles are slower, given their nature, however, can add significant growth opportunity once landed. For Australia and Europe, along with a short update on development, Brent, I'll pass over to you.

[Brent Harris, executive]

Thanks, Justin. We covered in prior quarters that we were making a change to our business model in Australia. We've completed that and are now in the business of installing complete solar systems in South Australia and building opportunities nationwide to do that with new homebuilders. Through this next quarter, we expect to continue organic growth of that business, but we're looking at some changes and additional resources in early 2023 to get a step change in the business there and strengthen our position.

We're building homebuilder relationships and this is a key point for the -- a key reason why we're pursuing full system installations. When we work with these homebuilders, they want to see a single supplier responsible for the equipment and the quality of the installation and that's what they're finding attractive. It's a one-stop shop, complete solution with Eguana.

We're also nearing completion of demonstrating compliance with the new frequency control ancillary service market regulations in Australia. So these are regulations whereby distributed energy storage systems, primarily residential, can be bid into those wholesale ancillary service markets. We've demonstrated that our products can do it.

The real key here is providing verification of that through the product itself where it can self-report to the satisfaction of the Australian Electricity Market Operator, AEMO, that the action was taken and the service was provided. So that's what's being completed currently and we'll be able to offer through our partner, Simply Energy, a very attractive frequency control product that helps sell our product to existing homeowners and these new homebuilders who want to build out that distributed energy storage capacity as they build new homes.

In Europe, we remain working on a partnership with a white label partner, utility in France. This will include our complete product line, but starting with the micro inverters because the storage market in France is not as advanced as it is in Germany, but our partner wants a full suite of solutions. Obviously, being a utility, they see high value in those virtual power plant capabilities and those grid services.

The testing has gone very well with the storage system and with the micro inverters. We've moved beyond the basic testing into extreme testing now to find the edges of the operation of the system and we expect to get moving on first sales in early 2023 for micro inverters and then storage in the second half of next year. Alongside this activity in France, the continued instability in Europe and especially volatility in electricity prices is increasing demand for solar and energy storage products.

We, as a result, have made a decision to offer our products again under the Eguana brand and sell them directly to consumers and installers. We will be adding the Enfuse micro inverter to our product line in Europe and continuing sales with that. So those are the 2 market updates on the development side. I think we just wanted to highlight this was a very busy year for our development team in pursuing new products and additional certifications in a changing certification environment.

So this year already, we completed 6 different certification updates to our products with changing requirements from different authorities in the 3 regions that we operate. We've added 3 new products through certification, especially the new 9540 and 9540A requirements in North America that are now translating into other markets like Australia.

As we work with our partner PowerCenter, we needed to update our certifications and go through a multiple listing process with Intertek as well as the CEC and ask them to get all of those products listed with all of those authorities. On top of that, Justin has mentioned the supply chain situation again. We have ongoing efforts in our alternate parts program to derisk our supply chain. Many of those components are certification-controlled, so require us to add additional certification testing and provide reports and even witness testing with our certification partners. We've had 4 separate streams on that related to different levels of severity in the supply chain. But those are all completed, have kept us in production and we expect to be ongoing with that until we see some stability in the supply chain here.

And lastly, because of all these certifications that we pursue, we have undertaken some certification efficiency projects where we've combined some of the requirements with a single testing agency to eliminate complexity, give us a faster process. We're also -- we've also been licensed by CSA to do our own testing at our own facility here. So we're not subject to the timelines and the difficulties of testing at a third party certification agency. We don't have to fit into their lab time. We don't have to depend on them to set up and understand our product and get it set up properly. We don't have to send people out there to assist them with it. We can do it right here in our lab. It's on our terms and on our timeline.

We've also pursued additional software certification for the platform that allows us to get fast turn in product software revisions without having to go through a full relisting process and moved to our 2 new manufacturing locations this year in San Jose and our new facility in Calgary. So it's been a busy year. It's going to continue to be, as Justin has alluded to, we continue to grow the team and we want to build the culture that's going to attract the right development team members and engineers and programmers to come join the Eguana team and build this platform and this company.

With that, I'll pass it...

[Justin Holland, executive]

Back to me?

[Brent Harris, executive]

Back to Justin here for questions.

[Justin Holland, executive]

Just before we get into questions, just a quick summary of where we're at and what we've been working on. We are in the best working capital position in the history of the company by a significant margin. We did double shipments for both micro inverters and energy storage units, in the fourth quarter, which actually went up by over 136%. The supply chain is primed for both energy storage and micro inverters. Manufacturing scale up is going well, with first pass yields, with the Omega team crossing 80% already. On-demand training programs are starting to roll out, which have already delivered more visibility into future orders and purchase orders and the internal team has grown by over 40% as we prepare to execute our 2023 plans. The doubling of the shipment is certainly something we want to see continued.

[Justin Holland, executive]

And one of the questions that has come in is, what is happening with the $7 million micro inverter order that we received after launch. Happy to say and I think we noted in the press release, we have been shipping against that order. The $1.9 million that was moved into the December quarter, those shipments were part of that order as well and we anticipate having the entire order shipped prior to the end of the calendar year. So that $7 million order that was received in the summertime will be completely satisfied before the end of the calendar year.

Another question on growth is when do we expect to see growth, outside of the doubling of the shipments. We do see a doubling particularly on the micro inverters again for the December quarter. That's what we want to continue to see, is that growth. We do anticipate seeing it in the micro inverters first, as we've noted. The response from the market is certainly growing quickly, hence the re-strategizing of the training programs.

Previously, we had planned training modules with some of our key field personnel. We do need to open that up to the on-demand training just to increase our training capacity, which ultimately gets products available to sell a lot faster. It's important to note that, prior to having partners, particularly installation partners sell our products to consumers, they have to complete the training to understand the product that they will be selling and installing. It's not like buying a television from the local best buy. It's very integrated with the grid and comes with a specific set of knowledge and skill sets you need to install these. So the training -- on-demand training will be a key factor going forward.

Doubling up the growth again is something that we want to see continue into the December quarter and then through the March quarter. We do anticipate seeing the growth higher with the micro inverter versus the energy storage systems albeit, we expect energy storage to catch up and pass that from a revenue standpoint in the future, just based on the selling price of each one.

Which market has the highest growth potential? I mean, that's a great question. Right now we're seeing the North American market really take off. That's where we're seeing the most early activity on the micro inverters as well. So I would say, through distribution and installer channels, North America, followed by North American VPP, white label opportunity, followed by Australia and Europe, which from a growth perspective should be fairly close to each other.

Australia will likely be higher growth in 2023, because of the Simply Energy VPP that we will take part in with Europe. Obviously the political situation and the energy situation in Europe is opening up opportunities for energy storage and surprisingly opening up opportunities for micro inverters as well, which we've not previously seen in the, particularly in the German market. So we'll see North America distribution followed by North America VPP followed by Australia and Europe.

Just a question on the 10k Max rollout. The 10k Max is going into production. Procurement activities have been underway for a while. We do anticipate seeing PowerCenter rollout, the 10k system early next year, followed by our white label partnership with our automotive partner.

What is the expected turnaround from order to delivery? I mean, previously we would get blanket orders that would last several years. If you just look at the $7 million micro inverter order that we got in the summer, we do anticipate having that completely satisfied inside of 2 quarters. We are seeing that type of a turnaround, particularly in the North American market, so that sales cycle is shrinking considerably.

Hawaii, similar situation in Hawaii, we see blanket orders that are now shipping within 2 quarters. So we'll continue to monitor that. The on-demand training program, particularly through distribution, opens up installer access, allows them to sell the products, which continuously shrinks that timeline as well.

Can we comment on PowerCenter marketing? We sure can. We're working closely with the PowerCenter team right now developing a 4-quarter approach with 4 specific campaigns targeted at distribution, installation and consumer. We will take the first 2 periods of each quarter for execution, followed by 1 period of metrics. We'll adjust the following campaign and then execute that. We will also see a lot more marketing and brand messaging around social media as well as trade shows in February where we'll see a lot of PowerCenter-related products. So that marketing from all aspects is about to increase.

Again, this is all in conjunction with the training programs for installation partners and distribution partners, part and parcel, if you will, but we're about to see an increase in PowerCenter marketing and we do expect to see, almost immediate growth from that increased marketing.

Do we anticipate 10,000 systems still with PowerCenter? We do, look these things on the storage side will change very, very quickly once we get the micro inverters moving. We are working with a couple of specific large branches who have the ability to move a lot of products across Florida and Texas right now. That's where we see a lot of the near-term growth coming. And as I mentioned, we -- shipments doubled in the fourth quarter. We expect to see that again in the fifth quarter. And we should see very similar numbers going into the March quarter.

So we want to maintain the doubling up, particularly on the micro inverter side because we know that as attachment rates from storage to solar continue to go up, if you've got a good baseline on micro inverters, then your energy storage revenues are going to catch up and surpass that of the micro inverter. But we do anticipate meeting all 10,000 systems with our partners at PowerCenter.

Just a question on the doubling up sequential. We do expect to see that on the micro inverters, again, the fourth quarter, doubled the third quarter with material that has either landed or is already in transit, i.e., we don't have to be concerned in the December quarter about any vessel changes or port congestion. We expect to see December double against the fourth quarter results. And then we are planning to double that again for the March quarter.

Question on product mix, particularly with the micro inverters? And again, we came out of the gate with a single, a dual and a quad micro inverter. We are seeing a change to the dual from the single, obviously from an installer perspective, half the hardware, more reliability, faster installations and so on and so forth.

So we're seeing a change to a dual from the single, the quad has not yet taken off. That's a fairly significant installation change for the installer groups. That'll be part of the training programs. However, we are happy to see change from single to dual as that is one of the differentiating items that we have with the micro inverter product suite. So it's not all singles. In fact, there's less singles than duals. However, quads have not started to go in the marketplace as yet.

Just a question in Hawaii. Again, the Hawaii VPP is going much slower than anticipated in discussion with our partner Pineapple. The belief is that we have over 80% of the installed systems in that VPP program. We have shipped another 144 systems in the fourth quarter into that program. We'll ship similar quantities in the December quarter for that program. So we'll maintain the leadership of that VPP. However, the overall installation rate is quite a bit less than what they had anticipated when they launched that program.

Just a question on the employee growth. Again, this is critical for us and we are focused on R&D and the field teams right across technical field distribution and sales. So right now believe we're somewhere around 65 total global employees, which is about a 40% increase over prior year.

Just a question on VPPs. VPPs are something that we're going to see come up more and more. Currently we're working on VPPs in Australia with Simply Energy. We're looking at VPPs with our homebuilder strategy in Australia. We're working obviously with Pineapple in Hawaii, where we lead that to that VPP from an installed base perspective. We're working with an automotive partner, which will be a VPP utility channel. The work that's going on in Europe right now that Brent mentioned, that will also drive towards VPP. You're going to start seeing this everywhere, as the grid modernizes and that's the future of it. That's where you're going to get the distributed grid or all of the fancy names that are given to the transition.

An interesting question on breakeven. Mix has a big influence on breakeven. We are looking at breakeven and profitability within the next few quarters. However, that is mix-dependent. We need to see additional activity in Australia where we're doing the bundled systems, which brings significant margin as well as a higher micro inverter to energy storage ratio. Energy storage gross margins for the industry are very tight. This was driven through early selling prices coming out of Tesla. They have been systematically increasing their prices, which is now balanced with the rest of the manufacturers. However, purchase price variance across the pandemic has made gross margins very difficult.

As we go forward and logistics costs come down, we will expect to see purchase price variance also come down, which will drive to breakeven. But it's -- with the growth we're seeing in Australia, with the growth we're seeing, particularly on the micro inverter and the growth we're seeing in energy storage North America, we do anticipate breakeven in the coming quarters along with profitability.

I think we're starting to just -- we're getting questions around, again the growth and where the revenue is due to when we can recognize revenue relative to our products is different product to product for certain products is when ships actually leave port. We did have a vessel containing 2 containers of product, filled with product on it that was delayed, which means you cannot recognize that. However, I think the takeaway for the internal team was we more than doubled shipments. The recognition of the revenue is more of a timing issue. What we want to see is consistently doubling up on those product shipments.

We are in position to do that again in December. We are planning that to double up that December number for March. So if we continue to see shipments double outside of any recognition, timing issues, we will see that breakeven get surpassed as well as profitability.

So with that, I'd like to thank everyone for joining today and hopefully we touched on many of your questions. Thanks, everybody.