Fuel Tech, Inc. (FTEK) Q1 2017 Earnings Report, Transcript and Summary

Greetings, and welcome to the Fuel Tech Inc.’s 2017 First Quarter Financial Results Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. Devin Sullivan, Senior Vice President of the Equity Group. Thank you. You may begin.

Thank you, Audrey. Good morning, everyone, and thank you for joining us today for Fuel Tech's 2017 first quarter financial results conference call. Yesterday after the close, we issued a copy of the earnings release, which is available on our website at ftek.com. The speakers on today's call will be Vince Arnone, President and Chief Executive Officer; and Dave Collins, Senior Vice President and Chief Financial Officer. After prepared remarks, we will open the floor for questions from our analysts and investors. Before turning things over to Vince, I'd like to remind everyone that matters discussed in this call, except for historical information, are forward-looking statements that are subject to certain risks and uncertainties that would cause actual results to differ materially from those set forth in our forward-looking statements. The factors that could cause results to differ materially are included in our filings with the SEC. The information contained in this call is accurate only as of the date discussed, and investors should not assume that statements made during the call remain operative at a later date. Fuel Tech undertakes no obligation to update any information discussed during this call. And as a reminder, the call is being broadcast and can be accessed at our website www.ftek.com. With that said, I'd now like to turn the call over to Vince Arnone, President and CEO of Fuel Tech. Vince, please go ahead.

Thank you, Devin. Good morning, and thank you, everyone, for joining us on the call today. It’s been about two months since our last call, and so I will give my remarks brief and focus primarily on the most significant changes in our business segment since that date. We continue to operate under two primary mandates within our company. First, achieving positive cash flow from our base business segments APC and FUEL CHEM, by maximizing global revenues, and leveraging our rationalized SG&A infrastructure; and second continue to invest in technologies that we believe will define our future. Our financial results for the first quarter of 2017 came in as expected. As many of the same issues that influenced our performance in 2016 have continued into the new year. Although APC revenues declined during the quarter, we are confident that we are on the right path towards building our revenue base. Our backlog at March 31, 2017 increased to $22.5 million from $8 million at December 31, 2016. We had announced $17 million of new contracts during the first quarter of 2017 making it among the best quarters in our recent history for business development. In Q2, I fully expect that we will announce $10 million to $15 million in new contract awards, which would bring our booking total to approximately $30 million for the first half of 2017. In terms of our sales pipeline, we are pursuing many promising new projects in all geographies with an estimated total value of approximately $150 million. As a complement to expected higher revenue levels, as we proceed throughout 2017, our focus on cost containment continues. SG&A in Q1 2017 declined by $2 million from Q1 of 2016. By the end of 2017, we will have removed more than $15 million in cost from our operations over a three-year period. The full impact of our improved cost profile will become more apparent in the second half of the year, as revenue begins to be recognized on our recently signed contracts. Our balance sheet remains quite strong. At March 31, 2017 we had cash and equivalents of $16.2 million or $0.69 per share and no debt. Now, let’s review our business segment performance in more detail. In the Air Pollution control segment, domestically we continue to pursue opportunities focused on boiler MACT and maintenance drivers for ESP upgrades, in ULTRA and SCRs for industrial applications. SNCR technology is applicable for units requiring compliance with the latest round of Casper, region hays, and state specific requirements for reasonably available control technology also known as RACT. While we do not expect significant impact from specific regulatory drivers in 2017, I would like to comment on a couple of items that will likely impact our future. On the Clean Power Plan the Supreme Court of the United States staid this regulation in February 2016. The DC circuit court heard arguments in September of 2016 and was expected to rule this spring. However, the administration issued an executive order in March to reveal the Clean Power Plan and to send it to the EPA for review. 49 gigawatts of coal-fired generation was projected to retire based on the original Cleaning Power Plan. If the Cleaning Power Plan is not re-established or it comes back in a different form, many marginal coal units could avoid retirements. However, the pressure on coal units based on natural gas prices is still expected to limit the recovery of coal unit capacity factors. President Trump's regulatory executive order requires a two for one rule making policy that removes two regulations for every new one that is proposed, which includes the EPA. The executive order calls on the office of management and budget to cramp guidance on how to implement that mandate, including procedures for calculating the cost of each individual rule for purposes of the budget. Rule is that EPA is required by law to issue may not be subject to the 2-for-1 order. The administration is reaching out to industry, including many ad pollution control companies for input on regulatory reform and more details on any proposed changes are expected later this summer. At a high level, the impact of these two items is continued regulatory uncertainty in the near-term. That said, we are pleased with the project bidding activity and contract awards over the past few months and industrial project activity is encouraging. We will continue to capitalize on the increasing deployment of new natural gas fired turbulence where SCR technology is required as best available control technology, which creates opportunities for our SCR and ULTRA Technologies in the industrial segment. We are also establishing strategic business relationships, both from multinational industrial end-users and partnering with companies that require our technology portfolio to complete a broad bid package. In China, we have generated almost $4 million in new contracts thus far in 2017, and see an improving sales trend for the balance of this year when compared to 2016. Regarding the market in China, it is important to note that existing power plant utilization is less than 50% of capacity in some areas causing a dramatic slowdown in new plant construction. In fact, 100 coal-fire projects and 11 provinces representing greater than 100 gigawatts of power were cancelled in January 2017. These cancellations occurred after $60 billion already had been invested in their construction. That said, China continues to promote more stringent NOx reduction standards, which will require upgrades to the existing SCR systems, including parallel upgrades to the ammonia production and delivery technology tied to those SCRs. For Fuel Tech, this presents an opportunity to convert our large install base of ULTRA systems to higher capacity systems, as well as coupling our SNCR systems with the existing SCR systems in order to meet those more ambitious reduction standards. Based on our current analysis of the markets, SNCR implementation on utility boilers will continue for at least the next two years. While the market remains competitive, we believe that we will win our share of this work. Lastly, we are closely watching the timing of emission compliance for the industrial sector in China as this will present the next market opportunity. In Europe, the European Union’s Industrial Emissions Directive, which requires phased in implementation dates beginning this year continues to drive compliance behavior. Opportunities exist in the UK for the remaining coal-fired fleet and for units that are converting to biomass. Additionally, through the use of strategic partners with local presence and project execution capability, we are also continuing to strengthen business ties with local entities in Spain, Turkey, Poland and the Czech Republic to take advantage of project opportunities when they arise in these geographies. Thus far in 2017, our European office has been awarded almost $5 million in contracts covering our SCR and ULTRA Technologies and also utilizing our expertise in ammonia reagent delivery systems. We continue to pursue opportunities associated with our various licensing arrangements. In India, we remain optimistic about the long-term prospects of our exclusive licensing agreement for our SNCR technology with ISGEC Heavy Engineering Limited, one of India's leading engineering and construction companies. Currently, the cement industry is moving towards SNCR implementation and we will assist ISGEC in this market. We currently expect the Indian government to back off on the aggressive compliance targets originally set for the power generation industry due to the high associated cost. They are considering a phased-approach prioritizing a particular matter first, then Sox and finally NOx control. We will push to demonstrate our low capital cost flue gas conditioning solution as a means to address articulate issues, as we believe that many units will seek to avoid costly electro static precipitator rebuilds to meet compliance targets. The demand for urea to ammonia convergent systems, similar to that scene in China for the past 10 plus years is expected to materialize. For our FUEL CHEM business segment; revenues were down slightly from Q1 2017 and gross margin was essentially stable at 49.5%. We expect that revenue and gross margin reported in Q1 2017 are good benchmarks for the remaining quarters of the year. As we have stated before, there are simply less demand for our products and our tradition end-markets due to declining energy prices and fuel switching from coal to less expensive natural gas. In response, we continue to pursue a variety of avenues that leverage our FUEL CHEM technology solutions. In the US, we continue to introduce this technology to utilities to assist them in adapting to a new operating paradigms marked by reduced low profiles that affect the manner in which they operate. We are continuing to support operators that utilize coal blending as a cost reduction strategy and as in many instances coal blending can cause unwanted slagging and fouling in the boiler and our program can assist in these cases. In Europe, we are excited about the opportunity to offer FUEL CHEM to the operators of biomass fired units and municipal solid waste units - both of which are known to have severe and costly slagging and fouling issues. We received a purchase order for one biomass fired unit in the first quarter of this year and the demonstration will start in the second quarter. Additionally, we are currently performing modeling for work for a municipal solid waste operator with the intent of having a demonstration starting late of the second quarter. On a worldwide basis, we are expanding our industrial reach into the pulp and paper industry where FUEL CHEM - more specifically our proprietary recovery CHEM technology - can address the issue of slagging and fouling and black liquor recovery boilers. In the U.S., we have completed a technology demonstration with a large multi-national company that we believe will bode well for expanding the technology on a commercial basis with that customer and with customers in that market on a global basis. In terms of order of magnitude, generally, we would expect revenues from this technology application to be in the range of $300,000 to $600,000 per unit on an annualized basis. We are currently assessing the addressable market for this technology application on a global basis. In the third quarter of 2016, we had announced the signing of an exclusive agreement under which Fuel Tech has licensed its proprietary Recovery CHEM technology to Amazon Papyrus Chemicals Group, a leading supplier of specialty chemicals to the pulp and paper industry in the Asia. Amazon currently manufactures and sells a variety of industry-specific chemicals to greater than 350 pulp and paper units on that continent. We have solidified our source of chemical supply in the region and have identified several target candidates for demonstration. Based on a recent meeting that we had last week with the Amazon team, it is our goal to have a successful application in Asia before the end of the third quarter as the springboard towards accelerating business activity thereafter. I now want to update you about the latest developments for our Fuel Conversion business segment. As we have discussed two plant built-out sites have been identified. One in Ohio and one in West Virginia, both having favorable supply chain characteristics. Also, we are advancing a variety of tasks to develop these locations to ultimately operate fuel conversion systems. At the site in West Virginia, which is our targeted first implementation, a draft environmental permit was received and the final permit is expected shortly. Upgrades and modifications to our previously purchased piece of production equipment have been completed and delivery to the site is scheduled late this quarter with installation currently planned in the third quarter. Actually my apology, the first site is actually Ohio not West Virginia. At this time, we continue to work closely with our potential clients. We have substantially defined initial product test quantities and discuss possible longer return requirements under future supply agreements. We believe that there is sufficient demand for the planned output of the first site and in support of additional capacity pending successful product testing. Importantly, we continue to work with state economic development authorities and to solicit various other alternative sources of project financing, which are essential to the further development of this initiative. In closing, I want to mention that research and development has been an important factor in Fuel Tech's historical growth and evolution. We still remain committed to investing for our future and are looking at technologies and businesses that will guide our path forward. In addition to our investment in Fuel Conversion, we are investigating technology applications in the water treatment and renewables markets. I’m optimistic that I will be able to speak with you regarding initiatives in both of these areas in the near term. 2017 remains a pivotal year for our company. We expect to see the benefits of our infrastructure modifications during the second half of this year and into the future. Additionally, we are poised to bring fuel commercialization and we are working on some exciting new business areas for our future. I look forward to improve financial performance for the remainder of 2017 and into 2018, as we look to bring value to our shareholders. Now, I would like to turn the conversation over to Dave Collins our CFO. Please go ahead Dave.

Thanks, Vince, and good morning, everyone. Revenues for the first quarter of 2017 totaled $8.5 million, which we expected due to our low APC backlog figure of $8 million carried over from year end. During the quarter, we announced $17.2 million of new APC orders, which will provide support for improved revenue in the second half of 2017. As we have previously noted, we started 2017 with the highest APC segment, quarterly booking amount in recent history, and we are expecting additional orders to be announced, which will contribute significantly to the 2017 results. Our FUEL CHEM revenue for the first quarter of 2017 totaled $4.5 million and were slightly below the comparative prior year quarter. We expect our FUEL CHEM revenue for the remaining three quarters of 2017 to be consistent with our current quarter results and we do have some opportunities to improve our outlook with new customer contracts. Our FUEL CHEM business seems to be stable with a good mix of continuing customers and some new market opportunities. Our gross margin percentage was 44% for the first quarter of 2016, compared to 34% in the comparative prior year quarter. This increase resulted from a higher concentration of FUEL CHEM segment product revenues and APC product mix. Our current quarter results were favorably impacted by the sales mix with a higher percentage of FUEL CHEM revenue and resulting gross margin. We expect to report a blended gross margin between 35% and 38% in 2017. For the first quarter of 2017, our selling, general, and administrative expenses declined $5.2 million or 28% from the comparative prior year quarter of $7.2 million. This reduction was due to the continuation of various restructuring and cost reduction initiatives that have resulted in over $15 million of cost being eliminated from our expense structure, during the past three years. For the full-year 2017, we expect to see an incremental $5 million decrease in our SG&A as we realize the full year benefit of cost reductions implemented previously. Our research and development cost for the first quarter totaled $1 million, which reflected continued funding and development for our Fuel Conversion business and our ongoing research and development activity. This spending level is consistent with 2016. We continue to believe it is important for us to support new product developments and will continue to pursue ways to diversify our products and markets through our R&D efforts. Our balance sheet at March 31, 2017 remains debt free and we have cash and cash equivalents totaling $16.2 million. Our working capital balance at March 31 was $25 million, which will continue to support our ongoing operating needs of the business. Lastly, on March 31, 2017 valuation note, our book value per share was $1.74, our tangible book value per share was $1.51 and our working capital per share was $1.06. In addition, we have another $0.56 per share in deferred tax assets, which have been fully reserved and are not included in any of the per share amounts quoted above. Now, I would like to turn the call back over to Vince.

Thank you, Dave. Operator, let’s go ahead and open the call for questions.

[Operator Instructions] First question comes from the line of Pete Enderlin with MAZ Partners. Please state your question.

Thank you, good morning.

Hi, good morning Pete.

Vince and Dave, what is the main gating factor in the expected ramp of the APC business in the second half, instead of potentially more in the second quarter, I mean obviously takes a lot of gear some of these up. But are there other factors that determine how quickly you can begin to generate actual revenues off of orders that you received recently?

Yes Pete thanks for the question. Good question. With our APC projects, every project has a - call it a predetermined schedule that we work to execute off of with the customer, and so as we look at projects that we book and then we evaluate how those projects are executed over time, every project has a specific schedule whereby we will walk off cost for that project and then the related revenues. So based upon the project backlog that we have in hand at the end of the first quarter of this year, this particular project mix will actually generate revenues more on the second half of this year and in some cases early in 2018 then necessarily in the second quarter of 2017. So at each point in time that, call it that walk off if you well is a little bit different, solely depending on that product mix.

So does that mean in some cases you get some upfront cost that are unmatched with revenues right away, I mean do you have to carry a little bit of that in terms of the overhead in the expense burden.

Actually no Pete, as soon as we incur cost, we are able to recognize revenues on a pro rata basis. So, it solely depended on how we actually incur cost as we execute those projects over time. So that’s how that works. And so projects that have protracted schedules will basically incur cost over a longer period of time, and as a result will incur revenues over that long period of time as well.

You mentioned the pipeline of potential business in APC of 150 million, what is the shape of that pipeline, I mean is it in terms of both geography and the timetable involved in that? I mean are these typically fairly long term again or could they ramp up more quickly.

Yes it will be a mix in terms of what we actually roll up into a pipeline. Our sales cycle for the APC projects is long, typically, but as we look to build a pipeline, first of all to answer your geographical question it’s predominantly domestic oriented at this point in time, but we have a nice percentage of pipeline that’s also Europe and China related as well, but the majority of that 150 is going to be domestic based. And from a timeframe perspective, some of these projects could come to fruition well within a year, some could be in a three-year to four year range, but it’s something we track and watch closely and we use that as a gauge to how we see that business develop prospectively as we look towards our future, just in terms of what is the - call it the make-up of that pipeline, are they good projects we have confidence in those projects, it’s something that we actually use as a forward-looking tool for us on a regular basis.

Okay that’s very helpful, and then I have a couple of financial questions and I will get back in the queue. Why was there a difference in the way accounts receivable affected your cash flow versus a year ago, in other words the flows where I think it was plus $3.5 million versus minus $3.3 million, was there any specific reason for that change or that difference, which helped your cash flow.?

Sure. Yes, Pete included in our - and we have a footnote disclosure added. Included in our accounts receivable is the unbilled for projects that are in process. We don't break that out on a separate line, so that impacts our receivable balance and cause it a little bit of consistency change there.

And then what are the actual restrictions on your “restricted cash”, I mean how fenced off is it?

I'm sorry what was that Pete?

What restrictions are there on your restricted cash?

Yes it is in a separate account and we can’t access that. It’s based on the line of credit balance that the full committed line of credit balance the JPMorgan has provided us. So we have currently $5 million in the U.S. and we have $1 million in China. So it’s a $6 million total facility that we have with JPMorgan. We haven’t advanced any cash against that. We do have letters of credit that are posted against the line of credit. If we chose to change the balance, the commitment balance, either reduce it or increase it, then we would adjust our restricted cash balance accordingly. So that that changes depending on what type of line we have in place with JPMorgan.

Okay, I'll get back in line. Thanks.

Thank you, Pete.

Thank you. [Operator Instructions] Our next question comes from the line of Barry Blank with Divine Capital. Please state your question.

Yes, good morning. I'd like to address the proxy statement and the issuance of the possible reverse split. Reverse splits don't work, and over 98% of all companies that reverse split, the stock drops after the reverse split on an adjusted basis for the reverse split. The company is not in compliance with the New York Stock Exchange Rule, because the stock is A, under a dollar, and you don't have $50 million in market cap. Assuming you do a reverse split and there's almost always the stock drops in value, your market valuation is going to go down even more, further away from the $50 million that you need to retaining listing, which is counterproductive to doing it. And in time it has shown that it's not where the stock trades, it's how the stock trades, and it's far more advantageous for shareholders value. To maintain the value of the investments for the shareholders, I don't think this reverse split is at all productive, and in fact, it could be very much counterproductive?

Yes. Hi Barry, this is Dave. I appreciate the question. Yes, the proposal in the proxy is not - we are not doing the reverse split. It's not a given, it's a request. So that the Board has the ability to maintain our listing status, that's all that it is right now. So, it is not a committed reverse split. I would just highlight the comments at the end of my script around book value per share of $1.74, tangible book of $1.51, and working capital of $1.06. Vince mentioned the cash balance per share of $0.70.

$0.70, correct.

So, there’s clearly support for our stock being higher than what it is today. And we are certainly hopeful that here in the near-term future, we can see some of that value restored to our stock. And that goes along with the comments that Vince made about restructuring the business, improved operations, bookings in the first quarter, we have reason to believe that we will restore value to the stock and not have to consider the reverse split. But it’s there only as a precaution, that's all.

Yes, Barry, just one more thing to reiterate, and it’s the fact that, we wanted to be prudent in terms of being ready to be able to do a split, if indeed we were forced to do a split. It is not something that we necessarily want to do as we sit here today by any means because of many of the reasons that you stated a few minutes ago. And to Dave’s point, it’s something that we're watching very, very closely. And it is our plan to have ourselves come out of the sub-dollar level over this next couple of months here by being able to discuss some positive activities for our business. So, again, I just wanted to reiterate that point that it’s more of a prudent planning requirement as much as anything else.

I may make one more comment. I don't wish to dwell on this at all because of your time. The exchange does not want to delist stocks, that's not what they want to do. And if you give them a plan that shows that you can get in compliance that you believe if they can get compliance at 18 months. This way better than a 75% chance they'll go along with it. And the fact that if you go to them and talk to them the key is just talking to them and staying in contact with your listing representative. I was a member of the New York Stock Exchange for many years and again the Exchange does not want to delist .So, I'll get of the queue and I will be, but I just wanted to mention that.

Hey, we’ll do Barry. Thanks for your comment. We appreciate the question.

Thank you. Your next question is a follow-up Pete Enderlin. Please state your question.

Thanks. I have some questions about the fuel conversion program, how proprietary is your technology in that area?

Yes, Pete, I would say that the strength of our intellectual property is actually in the know-how that we've developed about this process over the past 2.5 years, as we’ve looked to further develop the technology that we actually purchased back in September of 2014. We are in the midst of looking at a variety of different pattern filings as we look to refine the, call it, our know-how. At this point in time, I'd say, that the strength is really embodied by the folks within Fuel Tech that have been developing this technology over this past 2.5 years.

Are there people that are doing similar things or plan to do similar things?

Pete, I would say that, I think, we're unique in how we're approaching this application. And I'm not aware of others that are looking at this type of technological application in the marketplace today.

Okay. And you have mentioned in the past some financing alternatives, can you give us any clarity on what may happen on that regard?

I think we'll have to defer commentary on that until a little bit later, Pete. We’re looking at a variety of different financing alternatives, which include, I would call, municipal and governmental funds, strategic investing funds in a variety of other sources, but there isn't more than I can add at this point in time.

I saw some reference to carbon nanoparticles, I guess, the question is, what are they and what are the applications for them? And is that really mainly what this fuel conversion program is all about?

Pete, I'm not familiar with the carbon nanoparticle reference.

Okay.

What…

You guys mentioned?

All right. It’s - we focus on, I call it, an engineered carbon product, whereby we're looking to tailor our carbon products specifically for our customer's needs. No nothing nanoparticle-oriented in the process.

Okay. So what kinds of applications would there be for, I guess, very high purity carbon, which would be the end product of this process?

Pete, we're looking at a variety of different end markets. Some are consumer-based and others are related to the manufacturing industry, the production manufacture of a variety of different types of metals as well. And so there are several different end markets that we're looking at.

Do you have any sense at this point about how big this total market could be?

Difficult for us to define, Pete, at this point in time. I mean, we're taking a step by step approach. I mean, it has the potential to be more than tens of millions. It could be hundreds of million dollars in terms of the marketplace ultimately.

You mentioned in the R&D area looking at things like water treatment, does water treatment come up as potential application for the fuel conversion product to or is that separate?

That is something that we're looking at independent, Pete. We’re looking at further defining our company as a whole. So the water treatment area itself, it would be a new one for Fuel Tech. I can't comment on anything specific as we sit here today, but I'm hopeful that sometime here in the near-term that I'll be able to talk to all of our investors about what we're doing in that area.

Okay. Well, thanks for the perspective.

Thank you, Pete.

Thank you. [Operator Instructions] I'm showing no further questions. This does conclude our question-and-answer session. I will now turn it back to your CEO, Mr. Vince Arnone for closing comments.

Thank you. I'd like to thank everyone for taking the time today to listen to the call and for your continued interest in Fuel Tech. We do see a, definitely an improving revenue and cost structure profile for the remainder of 2017. And we are aggressively continuing to work towards commercialization of our fuel conversion business and towards developing some additional new business initiatives. Thanks again. We know that challenges remain, but we are very confident that we are going to bring value to our shareholder base here in the near term. Thanks very much.

This concludes today’s conference. Thank you for your participation. You may disconnect your lines at this time.