Thank you for standing by. This is the conference operator. Welcome to the Ballard Power Systems' Third Quarter 2023 Results Conference Call. [Operator Instructions] The conference is being recorded. [Operator Instructions] I would now like to turn the conference over to Kate Charlton, Vice President, Investor Relations. Please go ahead.

Thank you, operator, and good morning. Welcome to Ballard's Third Quarter 2023 Financial and Operating Results Conference call. With us on today's call are Randy MacEwen, Ballard's CEO; and Paul Dobson, Chief Financial Officer. We will be making forward-looking statements that are based on management's current expectations, beliefs and assumptions concerning future events. Actual results could be materially different. Please refer to our most recent annual information form and other public filings for our complete disclaimer and related information. I will now turn the call over to Randy.

Thank you, Kate. And welcome everyone to today's conference call. We began the second half of 2023 with robust revenue growth driven by deliveries in our core heavy-duty mobility markets. Our Q3 revenues are up 30% compared to the prior year period and up 80% compared to the previous quarter. At the same time, our gross margin loss is more than half, due primarily to execution and our product cost reduction initiatives and scale benefits from higher revenues. We continue to track to our full year guidance ranges for operating and capital expenses and have reduced our cash burn in the quarter and year-to-date compared to the prior year period. We continue to focus on prudently managing our costs, while making strategic investments in technology and product development programs, including product cost reduction programs as well as advanced manufacturing and manufacturing scaling and customer experience. Consistent with focused strategic investments in our core business, we initiated a portfolio review of all current products and product development programs. Following this review, we've prioritized our investments in our core fuel cell stack and module programs that have leverage across our business model and target markets. We are discontinuing certain legacy products and discontinuing certain product development programs in non-core activities and markets. We've also discontinued any new corporate development investments. As part of this streamlining, we've proposed a further restructuring of Ballard Motive Solutions, which we no longer view as core, resulting in a noncash impairment charge to goodwill and intangible assets. When we made our investment in BMS 2 years ago, OEM customers were less certain on the adoption of hydrogen fuel cells in medium-duty and heavy-duty mobility applications. As a result, they weren't making significant in-house investments on fuel cell powertrain and vehicle integration. Therefore, a key objective in acquiring…

Thank you, Randy. In Q3, Ballard delivered $27.6 million in revenue, with more than 75% of our revenue coming from heavy-duty motive applications. The share of product revenues as a proportion of the total continues to climb as our increased product backlog begins to translate into higher product shipments. Earlier in the year, we outlined what our shareholders could expect from us in 2023, including the Q1 would be the trough for gross margins and we have been executing successfully. This quarter, we saw encouraging progress in our gross margin as it was minus 10% in Q3 or an improvement of 12 points compared to Q2. As mentioned by Randy earlier in the call, this improvement was largely a result of initial success in our product cost-down initiatives, scale benefits from higher revenues and a reduction in inventory provisions. We reported total operating expenses of $36.3 million in Q3 and capital expenditures of $7 million for the same period. Given the current macroeconomic uncertainty, we have focused on reducing our cash burn as the total use of cash amounted to $34.1 million in Q3 as compared to $48.4 million in the prior year. We are maintaining our guidance for total operating expenses and capital expenditure, but now expect capital expenditures for the year to fall within the lower end of the range. We ended the quarter with $781 million in cash and no debt. In summary, Ballard is well positioned with industry-leading talent, fuel cell technology and products for our market applications, key customers and partners across our target markets, a growing product order backlog, industry-leading deployment experience and a strong balance sheet. We are confident we can deliver long-term shareholder value while making a meaningful impact by providing zero-emission fuel cell power for a sustainable planet. With that, we will turn the call back over to the operator for questions.

[Operator Instructions] The first question comes from Michael Glen with Raymond James.

Maybe just to start, Randy, can you just give some thoughts on what your market share is right now in the European bus market? And are you happy about where your market share is right now? Is there more you can do to pick up more bus customers in Europe?

Yes. Thanks, Michael. I think right now we have approximately 370 buses in the European market operating with Ballard fuel cell engines inside. I would say our market share in terms of the total bus installed park right now in Europe -- fuel cell bus installed park is probably over 90%. In terms of order intake in 2023, that number would be lower. So I suspect we're probably around 75% to 85% market share right now for European bus order intake. We do have some new competitors emerging that are using different fuel cell technology, particularly from Toyota. Am I happy with the market share? Of course, we'd love to keep 100% market share like we currently enjoy in the U.S. But I think our long-term targets are to have very high market share in bus, truck, rail and marine.

And when you look at who you're competing against in Europe and you're thinking about where this -- what's going on in the U.S. and the opportunity there, is it the same competitors in the U.S. market? Or is it a different competitor set that you're up against?

Yes. Today I would say it's different. It may be -- may see some convergence over time. You have different -- first of all, different bus OEMs in Europe versus the North American market. In the transit market, New Flyer has a very strong market share, probably about 2/3 market share for the transit bus market in North America and they have the 40-foot and 60-foot articulated buses that are certified with Ballard fuel cell engines inside. And I would say pretty well 100% of fuel cell bus opportunities at this moment are going to New Flyer in North America. Europe, it's actually quite dispersed. I would say there's probably about 8 to 10 fuel cell bus offerings in the marketplace there. Solaris clearly is winning the lion's share, but you have then Hool, Wrightbus, ADL, a few others. And then there's a couple -- say probably two that are competing with us at this point, but I expect to see more as we move forward. We also have about, let's say, about four smaller bus OEMs that we've signed up new orders and have initial trials in the last year. We haven't announced them yet, waiting for larger-scale deployments from those bus OEMs, but we're in their platforms right now. So I think we probably have something like 6 out of 8 bus OEMs that are offering fuel cell buses in Europe.

Next question comes from Aaron MacNeil with TD Cowen.

Paul, I'm wondering if you could share some perspective on how to think about gross margin breakeven. And specifically, I'm wondering what sort of revenue level do you require with your current pricing and cost structure to break even on a gross margin basis? And if you have it handy, how do we split that $30.3 million in terms of directly variable cost of product services versus how much is fixed?

Sure. Sure. And thanks for the question. So in the Capital Markets Day, what we laid out is that we would expect to be gross margin breakeven at some point in late 2024 sort of on a quarterly basis, not breakeven for the full year. That would be in 2025. I think that guidance, we probably make that more like we'd be breakeven in the quarter -- early quarter in 2025 at this point on increasing revenues. We have about $28 million or so in sort of fixed overheads, depreciation and fixed overheads that the gross margin or the contribution margin needs to overcome. And so as we see increasing orders and increasing revenue, that's when we would expect breakeven to occur at that time frame.

Got it. In the prepared remarks, both of you mentioned the reduced cash burn in the portfolio review. Can you sort of provide an early indication on what the operating expense and CapEx guidance could be for 2024? And to be clear, I can appreciate that you're not going to provide a range, but I'm more just looking for directionality.

Sure. So for this year, our cash burn, I'll just talk a little bit about the cash burn this year because I think it's worth noting. So our total cash burn year-to-date is about $36 million lower or better than last year year-to-date. And that comes from a variety of sources. One is higher interest earned on our cash balance. So with rising interest rates, we've been able to earn higher interest. We've also scaled back on working capital a little bit. So our operating activities, cash from operating activities is about $25 million better than last year. We have increased our CapEx spending by about $15 million year-on-year, but we have lower -- as Randy mentioned, lowered corporate development by about $27 million. So our total activity from investing activities is down by $12 million. So the $12 million plus the $25 million from operating activities gives us about $35 million, $36 million better year-to-date cash runway. Our guidance -- we were to provide guidance for 2024. We're in the middle of producing our plan and finalizing our strat plan. But broadly speaking, we would expect operating expenses to be largely in line with 2023, I would expect. And then the CapEx guidance to be probably -- could be $5 million to $10 million lower than it is this year. Sorry, one quick qualifier on that. So our operating expenses to be broadly in line with this year, with the exception of inflationary increases of about 3%.

The next question comes from Rob Brown with Lake Street Capital Markets.

Just wanted to follow up on the U.S. bus market. I think you gave some stats about more transit agency looking into or working on fuel cell projects. Just want to get your sense on how that -- the U.S. market develops, how you see it in terms of rollouts? And what's sort of the time line of the U.S. market at this point?

Yes, Rob, thanks for the question. I think one of the really interesting developments has been, as I mentioned earlier, this recognition, not just of the range advantages and the refueling time advantages of fuel cell buses, but also the advantages around scaling infrastructure. And there were 2 recent conferences in the U.S. bus conferences that really saw a number of transit operators highlighting -- this wasn't Ballard or New Flyer. This was actually the users of the buses highlighting the relative advantage of scaling infrastructure for fuel cell buses versus battery electric buses. As an illustrative example, Philadelphia Transport Authority, which has about 1,300 buses in their fleet highlighted on 2 separate slides, one slide that showed the availability of fuel cell buses to on a range basis meet all of the routes and it can meet 100% of the routes, whereas the battery electric buses, they were showing can satisfy roughly 20% of the routes. And then the other slide that was very compelling was showing basically a significant -- significant cost advantage for refueling infrastructure as compared to recharging infrastructure for the fleet of buses. And this was a pretty interesting case study. So to me, you've got cities like New York, Chicago, Las Vegas, Philadelphia, that are really talking about fuel cell buses in a way they haven't before. And I think we are now seeing the -- an inflection point in market understanding that will translate to orders longer-term. I do think that the hydrogen -- the available low-cost, low-carbon hydrogen in the U.S. market will be a massive enabler from a cost perspective for the total cost of use and we see some of these hydrogen hubs potentially being able to contribute likely in the midterm, so kind of 3- to 5-year time frame. In terms of the timing for buses in the U.S. market, I would still characterize it as deployments in the 20 to 120 range per city per announcement of project over the next few years. But from 2025 through 2029, we are going to see a very significant shift as the California transit buses with the ICT policy are required to effectively go zero emission for all new transit buses by 2029. So I think we're going to see this significant scaling from 2025 to 2029. And it won't be just in California. It's across the U.S. now where we're seeing these opportunities emerging.

Okay. And could you update us on your thoughts about having U.S. production capacity? Are you -- where is that at, at this point?

Yes. Rob, we're still working against that and doing our comparative analysis, looking at the European market, looking at the U.S. market, looking at the relative advantages and incentive support that's available in the market. We expect to conclude most of that work late this year, but we did indicate we probably would be Q1 next year before we're in a position to make a final determination. As you can appreciate, there's been a number of companies applying for U.S. funding opportunities to scale clean energy technologies, including fuel cells and electrolyzers and the agencies that have funding available to support these type of manufacturing expansion plans are quite busy managing these applications. So we are in an application process. I don't know if we'll be successful or not. But we do see that the timing on response for funding agencies has been protracted.

The next question comes from Mac Whale with Cormark Securities.

I'm wondering, the backlog -- the new orders looks a little bit weak given where the backlog and where the orders came in. Is there a shift from your customers maybe to shorter-term focus and -- because your guidance on kind of the split versus second half in terms of revenue looks like you're still expecting some good sequential growth. So can you kind of reconcile those two elements of the results?

Yes. I think that's a fair characterization. We did see weak order intake in the quarter. What I'd point to, though, is the sales pipeline. And if I was to characterize the sales pipeline, Mac, there's 3 terms I'd use. It's growth, progression and diversification. We're seeing, in the quarter, over 10% growth in a very large sales pipeline already. More importantly perhaps, we're seeing significant progression of opportunities through different stages of the pipeline. And on the diversification front, we're seeing really significant contributions into the pipeline from all of the different verticals, particularly with bus, truck and rail in aggregate contributing about 75% of the total sales pipeline. So we see a pretty good diversification in that pipeline. We do see also some very lumpy projects in marine and stationary that could be significant adders to the order book and the revenue outlook as we move forward. Those are still in earlier stages. So I'm actually -- notwithstanding the weak order intake in the quarter, I'm very encouraged by what I'm seeing on the end-market interest and on the sales activity and the progression and growth of the sales pipeline. I would characterize this more as a timing issue. We see orders coming in, in Q4 and into early next year.

Okay. That's helpful. And then I just thought I would -- I think Paul mentioned already -- sort of gave an update on the breakeven on the margin basis with reference to the September Analyst Day. I'm wondering on one of the other goals in the Analyst Day that you talked about was expand across the value chain. Are you -- given the write-down, are you thinking -- or what are you thinking about in terms of tweaking that expansion? Like do you -- are there different areas now that you need to go into or you think are more likely you'll go into versus, say, third-party integration? Like is there a shift there going on?

Yes. Mac, I think you've highlighted this. A couple of years ago, we were investing in a couple of strategic themes, one of them being selectively expanding across the value chain. And we have seen this shift in the marketplace from a few years ago where vehicle OEMs really didn't have in-house commitment or in-house resources to support onboarding a fuel cell engine onto their powertrain effectively when we had examples where that didn't go very well. And so what we've seen, though, is a very significant shift in understanding of the value proposition for hydrogen fuel cells in medium- and heavy-duty mobility and the strategic importance that vehicle OEMs are now placing on powertrain integration and they view this as really part of their core business and part of their competitive positioning. So what we've seen is that a number of vehicle OEMs, many of whom we've onboarded as customers during the last 2 years and provided support through that process, have really scaled up their in-house powertrain integration and vehicle integration services and aren't looking to companies like Ballard to provide that third-party, I call it niche service support. So we are effectively retrenching and deprioritizing the selectively expand across the value chain from two perspectives. One is from a corporate development perspective. And secondly, from a -- the number of programs and the number of engineers we have working on powertrain integration. So effectively what we're doing is sticking to the knitting in terms of the fuel cell stack and core modules and making sure that we protect the balance sheet for long-term sustainability.

Okay. And I guess that over the long run, that should be a positive, right? Like you're able to focus on things like cost-out and performance. So like you talked about your -- the changes -- that you showed us the changes in the bipolar plates and that type of activity. So I suspect we should be able to see more of that and maybe accelerate those initiatives rather than sort of handholding, if you will, your downtown customer?

Yes. It's really two things. One, the real advantage that the vehicle OEMs are onboarding and in-housing more capability and taking that scope and doing it as proprietary. So we don't need to provide that, to use your language, handholding. And then secondly, as you point out, to make sure we're focusing our resources and accelerating the activities where we have core strength, which is the fuel cell stack and fuel cell engine.

The next question comes from Rupert Merer with National Bank.

Just following up on the last question from Mac there. With some of your customers taking on in-house integration, I imagine there's some overlap there with what you would consider a balance of plant. Does that introduce any complexity around standards for interconnection of your product across multiple platforms and maybe force you to have nonstandard products?

Yes. Good question. A couple of things I'd highlight is one of the things we've done in terms of our own scope of work as we look in our product road map moving forward, is that we historically didn't include DC/DC conversion in our scope of work. And we have, over the last 2 years, really started to include DC/DC converters in our scope of work. And so what we are looking to do is to make sure we have a fuel cell module that is applicable to all vehicle OEMs without any major deviation or we're looking to standardize. Now there might be some modest application engineering support required by a vehicle OEM, which we're strongly positioned to support. But we're not talking about really substantive changes to the bill of materials.

Okay. Very good. And then with your focus on cost reduction, you'll be able to narrow down to a few areas where you have core expertise. You mentioned you saw some benefits of cost reduction in this quarter. Just wondering if you can give us an update on where you're at today and how you are progressing towards your ultimate targets?

Yes. I think there's two areas where we're seeing really good development on cost reduction. One relates to the MEA and the second relates to balance of plant components. We have significant efforts organizationally over the last number of years on our cost-reducing MEAs from a processing perspective as well as from a material perspective. Those are starting to show up in the production and we'll see I think even more evidence of that into 2024. And then we have a very significant team that we've built over the last number of years that's working on balance of plant components. And we have typically 5 or 6 really heavy-hitters in the bill of materials that we've been working with suppliers on and have seen significant cost reductions on some key balance of plant components, some of which still have not got into production yet, but we will see that into 2024. So we're progressing very well, as we mentioned at the Capital Markets Day. On the 3x3 [ph] program, we had been 55% of the 70% target had been achieved already. We're still tracking to that 70% target. I think more importantly now is this balance of plant component cost reduction as that is a significant part of the overall fuel cell engine cost structure. So we're very excited about what we're seeing. And I think as we look out to 2025 and 2030 and think about the longer-term cost reduction, not just with MEAs, but now introducing lower-cost bipolar plates under Project Forge [ph] that we have internally and that we talked about a few months ago in June as well as moving forward with balance of plant component cost reduction and some of the advanced manufacturing initiatives. We're looking at pretty significant reduction beyond that 70% stack and module cost reduction that we talked about over the last 2 or 3 years.

The next question comes from Jordan Levy with Truist Securities.

I appreciate all the color. Maybe just -- I know it's still kind of early for a 2024 outlook. But if you just think about the various segments that you're in and how quoting activity is shaping up, can you maybe just talk to which segment, whether it's kind of rail and bus or that could kind of flex one way or the other in 2024 that you could see really taking off and surprising us or shifting to the downside and maybe just some of the activity around quoting you're seeing right now?

Yes. Thanks, Jordan. And I think just go back to the 75% of our sales pipeline in bus, truck and rail, I would say the surprise there has been the rail market. And I wouldn't mind just spending a second to highlight the rail market, but I'll come back to the overall sales pipeline and outlook for a second. But if you ask kind of which one to surprise the upside. We said a few years ago that rail could be one of those markets that surprised to the upside. And I think we've seen that. And there are really two core markets we're focused on in rail. One is the European and northern -- our North America commuter passenger rail market. And the second is the North American freight market. In the North American freight market, there's 35,000 diesel locomotives that, in my opinion, must be replaced on a time line in order to see emissions reduction. And I think related to that, I just want to highlight, both for the North American freight plus the North American commuter rail market, there are increasing regulations, particularly in California. So California has implemented a policy past regulations that really require pretty significant measures to reduce these locomotive emissions and it will effectively require passenger, industrial and switching locomotives built in 2030 or after 2030 to be able to operate only in a zero-emission configuration. And for line haul locomotives that will be -- deadline is 2035. So 2030 and 2035 may sound like they're pretty far away, but for line haul locomotives, this is -- they're typically 15-year lives. It's really time for the next couple of years for these solutions to start being developed. I did want to highlight in the rail market, we had just announced one of…

That's super helpful. And then just as a quick follow-up, you mentioned stationary. I know that it's kind of early in the progression there, but certainly a big market. Maybe if we could just get an update on what you're seeing there and how you're thinking about that segment?

Yes. I think this is a market we're still learning quite a bit about. I personally have spent a lot of time learning about the data center market with our team as well as the market for what I'd call temporary power applications where you have filming sites or construction sites, et cetera. What I would say is that the data center market is one of those secular growth trends that we think could be very compelling and open a market opportunity that we, a few years ago, hadn't really seen. The data center market is just growing exponentially. You're seeing now what, 20, 40 megawatts and now 200, 400 megawatts for data center sites. So what we're looking at here is standby power. And I visited a customer recently that is demonstrating their solution for a complete standby power application for data centers. They're one of the leaders in the data center market. And they have at their headquarters an installation that they're showing to their end-users, companies like Amazon and Microsoft as illustrative examples, that are increasingly looking at challenges of getting permitting for data centers in cities. And that challenge from permitting is coming from the use of diesel engines in their standby power applications. So we do see this opportunity. It's still to be proven out, but this opportunity for fuel cells to enable permitting for large data centers, including standby power. So this is a very interesting market opportunity. And again, this is strong secular growth. These data centers need now gigawatts of power moving forward in aggregate and this is going to be a pretty significant market opportunity and we're looking to validate fuel cells and the value proposition from a TCO perspective for fuel cells in this market. The other market in stationary that we're seeing these, I'll call it, temporary use applications. That's an emerging market opportunity. Just visiting one of our customers, GeoPura and saw them at their site where Siemens Energy is -- they're a contract manufacturer building a number of units for deployment of their -- what's called their HPU, their hydrogen power units. And they have a number of different exciting opportunities you can see on their website, some of the opportunities they profile there. And then we're seeing also opportunities for challenges where you have grids that don't have resiliency or don't have the power that they need to supply basically recharging for electric vehicles, battery electric vehicles. And so ironically, where we see these markets where battery electric or fuel cell electric might win, if battery electric wins, perhaps we still get the fuel cells for providing backup power. So there's some opportunities there as well.

The next question comes from Manav Gupta with UBS.

I just had one question. Can you help us understand over a longer term how the development of hydrogen hubs in the U.S. can be a tailwind for your business?

Yes. It's really about the availability of low-cost, low-carbon hydrogen in the marketplace. So these hydrogen hubs paired with the production tax credit -- and we should be getting guidance from Treasury on the interpretation of the production tax credit by the end of this year. Those two measures together, the hydrogen hubs plus the $3 per kilogram for emissions that are less than 0.45 kilograms of CO2 per kilogram of hydrogen really are the enablers and unlockers for the hydrogen market broadly, including fuel cell mobility applications and fuel cell stationary applications.

This concludes the question-and-answer session. I would now like to turn the conference back over to Randy MacEwen for any closing remarks.

Thank you for joining us today. Paul, Kate and I look forward to speaking with you next quarter. Thank you.

This concludes today's conference call. You may disconnect your lines. Thank you for participating and have a pleasant day.