Fuel Tech, Inc. (FTEK) Q2 2020 Earnings Report, Transcript and Summary

Greetings, and welcome to the Fuel Tech, Inc. Second Quarter 2020 Financial Results Conference Call. [Operator Instructions]. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Devin Sullivan, Senior Vice President of The Equity Group. Thank you. You may begin.

Thank you, Donna. Good morning, everyone. Thank you for joining us today for Fuel Tech's second quarter 2020 financial results conference call. Yesterday after the close, we issued a copy of the release, which is available at the company's website, www.ftek.com. Our speakers for today will be Vince Arnone, Chairman, President and Chief Executive Officer; and Ellen Albrecht, the Company's Principal Financial Officer. After prepared remarks, we will open the call for questions from our analysts and investors. Before turning things over to Vince, I'd like to remind everyone that matters discussed on this call, except for historical information are forward-looking statements as defined in Section 21E of the Securities Exchange Act of 1934 as amended, which are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and reflect Fuel Tech's current expectations regarding future growth, results of operations, cash flows, performance and business prospects, and opportunities, as well as assumptions made by and information currently available to our company's management. Fuel Tech has tried to identify forward-looking statements by using words such as anticipate, believe, plan, expect, estimate, intend, will and similar expressions, but these words are not the exclusive means of identifying forward-looking statements. These statements are based on information currently available to Fuel Tech and are subject to various risks, uncertainties and other factors including, but not limited to those discussed in Fuel Tech's annual report on Form 10-K in Item 1A under the caption Risk Factors and subsequent filings under the Securities Exchange Act of 1934 as amended, which could cause Fuel Tech's actual growth, results of operations, financial condition, cash flows performance and business prospects and opportunities to differ materially from those expressed in or implied by these statements. Fuel Tech undertakes no obligation to update such factors or to publicly announce the results of any forward-looking statements contained herein to reflect future events, developments or changed circumstances or for any other reason. Investors are cautioned that all forward-looking statements involve risks and uncertainties including those detailed in the company's filings with the SEC. With that said, I'd now like to turn the call over to Vince Arnone. Vince, please go ahead.

Thank you, Devin. Good morning, and I want to thank everyone for joining us on the call today. I hope that you and your families are safe and in good health. I'll begin today with an overview of how the COVID-19 pandemic is impacting Fuel Tech and how we are addressing these challenges. We believe that the COVID-19 pandemic affected our air pollution control, and FUEL CHEM operations in the second quarter, although the impact is difficult to quantify. Many of the project specific delays that we had been experiencing in closing new APC business Awards were extended as a result of COVID-19. Our FUEL CHEM segment was impacted by slower activity due to COVID-19 in particular, in the month of April in May. A decline in economic activity drove reduced electricity demand, which lead to a reduction in electricity generation and dispatch and particular for coal-fired power generation units. Fortunately, the month of June showed improvement, and thus far in the third quarter, we have returned to normalized run rates for use of our FUEL CHEM programs. It is important to note that Fuel Tech qualified as an essential business under the state of Illinois executive order and our operations have been active not only in the U.S. but on a global basis as well. We developed and deployed a series of initiatives designed to minimize disruptions to our normal business activities and preserve our ability to execute on our objectives. We are focused on supporting our current and potential future customer requirements for our APC and FUEL CHEM business segments during this critical period of time and are deploying recommended safety protocols across our enterprise to ensure that our employees, customers and suppliers remain safe. For APC business, both for potential new awards and for execution on existing contracts depending on the nature of the customer's business, and their near term planning requirements, we are finding that some projects are moving forward as planned, while others have been delayed until such time as the economic outlook becomes more clear. We do have active projects in our current pipeline. And we are confident that we will close new awards with an aggregate total value of $10 million to $15 million by the end of this year. We did secure $2.2 million of new awards in early Q3 and are in various stages of the proposal and negotiation processes with customers for the additional awards that I just mentioned. These awards are weighted towards the U.S. and Europe and primarily for our SCR, ULTRA and SNCR offerings. Notwithstanding the impact of COVID-19 on new project awards, SCR and ULTRA for natural gas applications, and industrial markets continue to provide our best business opportunity. This includes focusing on small to medium gas turbine combined cycle plant projects, such as the combined heat and power upgrades at universities and large medical complexes and new opportunities in the oil and gas segment. We continue to support and partner with small turbine suppliers, and suppliers of internal combustion engines for stationery deployment and look to exploit the development of plug-and-play small engine SCR solutions for the distributed power generation market. We are also monitoring activities at the state level, where new environmental guidelines including compliance with the EPA Boiler MACT and regional haze rules may produce opportunities to install best available retrofits control technology on certain sources of emissions. We continue to attract opportunities in Europe related to our ULTRA, SNCR, and SCR technologies, as well as those associated with breath, the best available reference technology guidelines that were first issued in August of 2017, and that had compliance timelines through 2020 and beyond. Longer term, we are tracking APC opportunities in India, Southeast Asia, and South Africa. At our FUEL CHEM business segment, as I noted previously, revenue generation was impacted by slower economic activity due to COVID-19 in particular in the month of April and May, due to the overall decline in economic activity and related decline in electricity demand. In the month of June and thus far in the third quarter, we have returned to normalize run rates for each of our FUEL CHEM programs, and we expect third quarter revenue to approximate the revenue generated from the first six months of this year. Early in the third quarter, we announced a new order for equipment supporting our TIFI targeted in furnace injection technology, our three coal-fired units in the United States. The equipment installation and start up for these units should occur before the end of the third quarter, and we expect to see contributions from these units throughout the second half of the year. We are continuing to pursue opportunities for additional FUEL CHEM applications at biomass and municipal solid waste units in Europe and Southeast Asia via our partner Amazon Papyrus for the pulp and paper industry, where we are using our RECOVERY CHEM program and in other southeastern Asian countries, where coal is a primary source of fuel, power demand and related pricing is high in where slagging and falling is an issue. Longer term, we continue to build on our progress with our partner in Mexico to employ our solutions to help mitigate harmful emissions by burning high sulfur fuel oil. Our partner continues to engage with local officials in Mexico to advance this solution. The reduction in oil price has provided impetus for the Mexican government to explore the burning of the high sulfur fuel oil produced by Pemex, the state-owned oil company, and this oil is being burned, however, largely without pollution control measures. Pressure is now being placed on CFE, the state owned utility to install pollution control measures wherever this fuel is burned. In June, our partner solidified contract extensions with CFE for the two sites at which we currently have our FUEL CHEM programs installed. And now, we are in the process of working with our partner to provide cost estimates for the expansion of our program to other sites that burn the high sulfur fuel oil. We will watch this development closely as we move throughout the year. Regarding our DGI, Dissolved Gas Infusion initiative, we previously reported that a planned onsite demonstration of our water technology at a pulp and paper facility in the Midwest early in the second quarter of 2020 had been delayed to the impact of COVID-19 and this demonstration is still delayed as of this date. In July, we signed a new license agreement related to the DGI technology with Cadence Corporation, an entity that purchased the assets from the prior license ore of the technology, NanO2 LLC Prior license order of the technology NanO2 LLC. Kadance Corporation is a company active in municipal waste treatment with a focus on delivering biological solutions to this market. Under the terms of the new agreement Fuel Tech has more flexibility regarding non-exclusive market access and can now manufacture all DGI delivery system on its own. We continue to advance conversations with several other potential customers of our DGI technology across a variety of industries. We continue to focus on our cost structure and on maintaining an efficient financial profile relative to the opportunities offered by our current market environment. Our SG&A was approximately $3.25 million in the second quarter of the year, when excluding the favorable impact of a reversal of a bad debt charge in the quarter. For the full year, we expect SG&A to approximate $13 million to $13.5 million. The execution of our cost reduction initiatives over these past few years, including the wind down of our China operation has enabled us to sustain in this difficult market environment. In China, we have selected and repatriated in excess of $1 million in cash from our China customers as of June 30 of this year, with additional repatriation of funds expected later in the year. We ended the quarter with over $11 million in cash and cash equivalents. As I noted during our first quarter conference call on April 15, 2020, the company entered into an agreement with its lender pursuant to the paycheck protection program under the Coronavirus Aid Relief and Economic Security Act, providing for a loan in principal amount of approximately $1.6 million. This funding was completed in the second quarter, and is reflected in our financial statements at the end of q2. We believe that our current cash position combined with the cash flow expected to be generated from operations are adequate to fund planned operations of the company for the next 12 months and that all of the cost reduction efforts that we've accomplished have established a basis for material improvement in our financial performance as we move throughout the remainder of 2020 and beyond. Despite this challenging business environment, the Fuel Tech team remains focused and committed to delivering long-term value for our shareholders. With that said, I'll turn the call over to Ellen for her comments. Please go ahead. Ellen?

Thank you, Vince and good morning everyone. Consolidated revenues declined to $4.4 million in the second quarter from $8.9 million in the second quarter of 2019 reflecting significantly lower revenues for both APC and FUEL CHEM segments. APC revenues for the second quarter of 2020 were $1.9 million as compared to $4.8 million in the second quarter of 2019. Lower APC revenues were the result of a decline in backlog entering the year slower than expected new APC contract awards, and the timing of completion of current project. Backlog at the end of the quarter was $8.3 million comprised of $7.2 million in domestic projects, and $1.1 million from our foreign entities. Projects included in backlog represent a variety of Fuel Tech technology offerings across multiple geographies. As Vince mentioned, we did reports $2.2 million of new awards early in the third quarter comprised of projects from both technology segments. FUEL CHEM revenues for the quarter were $2.5 million as compared to $4.1 million during the second quarter of 2019. The impact of COVID-19 effective revenues in our FUEL CHEM's segment which, experienced reduced power demand and unscheduled outages beyond what we would consider to be normal for the period. We have as Vince mentioned started to, see a return to more normalized levels as we've entered the third quarter. Consolidated gross margin for the second quarter 2020 was 13.7% of revenues compared to 43.6% of revenues in last year’s second quarter. This decline was driven to a large degree by $1.1 million charge in the APC segment to remedy and equipment non-conformance issue related to a previously disclosed equipment warranty liability with the U.S. customer. Excluding the charge consolidated gross margin for the second quarter was 40%. We have submitted a reimbursement request to our insurer for the amounts expended in remediation, and such amount is within the coverage limits of our insurance policy. We continue to work closely with the insurance company to resolve this matter and upon settlement with our insurers. All amounts received will be applied to reverse the charge. For comparative purposes, APC results for the second quarter of 2020 and 2019 included no revenues from our Beijing Fuel Tech office and an operating loss of $0.1 million and $0.5 million respectively. We remained focused on controlling our costs which continued to be reflected in our SG&A. SG&A for the quarter was $2.8 million compared to $4.5 million in the second quarter of 2019. Factors driving this decrease included cost savings realized by the suspension of our China operations, along with reductions in certain administrative and consulting fees. This metric declined by more than 38% compared to the second quarter of last year. Included in this amount for the quarter is a $0.5 million reversal of a previously quoted - previously recorded expense related to a receivable on the aforementioned warranty liability claim. In spite of this reversal, SG&A would have still seen a 27% reduction from the same quarter in 2019. We continue to expect that SG&A will decline in 2020 without sacrificing the level of support of our current customer base, nor the business development activities. Research and development expenses increased by approximately $65,000 to $271,000, reflecting an increase in spending on our water treatment initiatives despite delays due to COVID on our technology demonstration. We continue to dedicate resources to other targeted initiatives in support of continued product development and enhancement. Net loss from continuing operations was $2.5 million or $0.10 per share compared to a net loss from continuing operations of $936,000 or $0.04 per share. Our balance sheet at June 30 reflects the proceeds and obligation of approximately $1.6 million from our SBA PPP loan. And we had cash and cash equivalents of $11.3 million, including restricted cash of $3 million. Our working capital balance at quarter end was $13 million, which will continue to support the ongoing operational needs of the business. With respect to valuation, our book value per share was $0.86. Our tangible book value per share was $0.74 and our working capital per share was $0.53 at June 30. Given our cumulative net operating losses of $5.1 million at June 30, which covered several geographies we expect that our income tax expense for 2020 will be at or near zero. This figure includes China NOLs, which we will maintain given that we are preserving the legal entity in China. Now I'd like to turn the call back over to Vince.

Ellen, thank you very much and operator, let's take this opportunity to open the line for questions.

[Operator Instructions] Our first question is coming from Amit Dayal of H.C. Wainwright. Please go ahead.

Just on the backlog Vince if could give us any color on what the mix is over here. And I know you are still anticipating around - or pursuing $10 million to $15 million in opportunities and do you expect any of that to sort of add to the backlog before the end of the year?

I would expect it to add to backlog Amit, but I would not expect that a great deal of it would actually pull through in the profit and loss statements in 2020, before the end of the year.

Understood, and the mix Vince what does it comprise of the backlog right now?

From a geographic perspective Amit?

Product perspective just you know…

Oh okay, product perspective it's predominantly SCR and ULTRA technologies in our backlog right now.

Okay, got it understood, understood

Yes.

So with this agreement on the water technology side, with Kadance with the DGI how does that sort of change some of your efforts - any color on if, there is any opportunity to accelerate these trials and piloted customers, et cetera?

Yes, I think that again, this is a new agreement that we've signed, Kadance actually acquired the assets of NanO2 LLC. The agreement that we have in place now with Kadance, I would call it a little bit more favorable to Fuel Tech, in that we now have an expanded opportunity to enter some non-exclusive market areas that we did not have the opportunity to enter previously. Secondarily, we have the ability to manufacture all of our DGI delivery systems on our own without having to purchase those systems from the licensor. Under our prior agreements, we did have the requirement to do that, but not any longer and given the fact that our long-term history is in fabricating and designing skin-based delivery systems, I think that's an advantage to us, generally speaking. And then lastly, Kadance is well - what we respected in the municipal wastewater treatment area. Their focus had been delivering biological reagents for wastewater treatment solutions and they became interested in the DGI technology as an enhancement to the biological reagents that they were providing. So we believe that there's an opportunity to better partner with Kadance generally speaking, than we would have had previously with NanO2 LLC as it relates to enhance development prospectively. And I would hope that would translate to an expedited timeframe for us to become commercial in marketplaces.

Just maybe last one, the second quarter probably, we see some low utilization at coal power electricity facilities. Do you feel that has picked up or are we still in some whatever recovery mode over there?

Yes, I still think there's recovery yet to go. Fortunately, we have seen some dispatch of coal-fired units which has been beneficial to us. As we've ended Q2 as we’ve begun Q3 as I mentioned in my commentary relative to the FUEL CHEM system and related revenue performance. So, I am pleased to see that. We have had some helpful weather in many parts of the country as well with extraordinarily warm temperatures associated with our summer season that's always the benefit to overall dispatch. And one of the factors that we saw earlier in the year and COVID-19 was impacting those factors was the fact that because of a lack of demand, we saw some of the larger units, not just taking their regular outages, or taking extended outages to do additional maintenance and repair, because they had the opportunity to do so, because there wasn't the need to get those units back up and running to meet anticipated demand. So hopefully, that is largely behind us. And we'll be able to continue to stay on a path of a more normalized run rate, if you will for FUEL CHEM. But I'm optimistic about what I'm seeing thus far in Q3, and hopefully that will keep in place for the remainder of this year.

Our next question is coming from Jim McIlree of Bradley Woods. Please go ahead.

I think in your commentary, you talked about FUEL CHEM returning to normal levels. Is that the same for pricing and margins or is there been a change in pricing that would suggest margins are changed?

Yes, pricing has largely stayed the same. And if when you look at our FUEL CHEM performance call it first half of this year over prior years, we do have a little bit of a fixed operating components for the FUEL CHEM business and as a result, because of the reduction in revenues we've had in the first half of this year, our margin profile is actually a little bit lower than we would normally expect it, because historically we've looked at approximate 50% gross margins for FUEL CHEM. With the increased revenue generation or I should say a return to more normalized levels, we'll see that return to a call it a more normalized 50% gross margin for FUEL CHEM business.

Great, thanks for that. And then secondly, I was hoping you could help me understand the timeline on DGI. I do understand - I do recognize that the testing has been delayed, but when we get past that when you start the testing again what's the timeline between testing how long does it take and then as your evaluation. And then there's a contract negotiation if you could just in broad brushes tell me what the timeline on that would be once you start testing?

Well I guess what I'll use as a basis for discussion Jim is the demonstration that we had planned on and started towards the end of Q1 beginning of Q2 at our pulp and paper facility. It was largely an 8 to 10-week demonstration period or thereabouts. Whereby obviously we start with assessing baseline conditions of the water that we're looking to treat and doing all the necessary measurement and testing of that water as is, and then we would start our demonstration program and monitor that over an 8 to 10- week timeframe. Coming out of that 8 to 10-week timeframe, obviously we sit and assess with customer the results of that demonstration. And then hopefully we would look to be able to sit with that customer and move forward towards a commercial agreement of some sort whether it be a system sale, whether it be a system rental, whichever business model would work out best for that particular customer. So that's what a demonstration timeframe would look like with some slight modifications that depending on the specific customer and the application that we would look to be addressing.

And so not to put words in your mouth, but it sounds like, the demo was 8 to 10 weeks, and maybe the evaluation afterwards would be a similar amount of time. And then, who knows how long it takes to negotiate contracts and all of that. But is that a fair enough way to look at it so let's call it 20 to 30 weeks before you actually have a signed contract?

I wouldn’t say that's fair, Jim on a generalized basis yes. I would hope in some cases, we'd be able to work a little bit more expediently. But a lot is going to depend on the nature of the customer that we're dealing with and how familiar they are with and aeration or advanced aeration type of process, relative to what it takes to completely convinced them that the DGI system is something that's beneficial for them. So generally, I think the timeframe is good.

And last the PPP loan, a number of other companies have been speaking to have been suggesting that the loan is going to be forgivable for them. Is that the case for you as well?

We definitely believe that to be the case. The timing of that forgiveness is indeed uncertain as we sit here today. The great majority of the banks that were authorized by the SBA are actually setting up web portals for having their companies that did receive loans, submit their application for forgiveness information electronically, as opposed to a lot of the paper processing that occurred with the first wave of application. So we're in waiting mode, waiting for that portal to be set up for our bank. And then we're told that that our bank has a 30 to 60-day period of time to review our in information, but they will also then submit the information to SBA because at the end of the day SBA has to approve of the forgiveness and then they will get back to our bank. So the timeframe for official forgiveness, as we sit here today is uncertain. But to answer your first question, yes, we expect the loan to be forgiven.

That's great, thanks. And if I - I think I lied I'd like to ask one more. You talked about COVID having impact on your business, and it was the impact you refer to was a lowering of electricity usage. Is there another impact that you either did or didn't refer to is that you can't get people in the field to either service or install? Are you having issues with that and if that's the case, how are you going about mitigating that?

I didn't refer to that specifically on the APC side. I did refer to some call it timing of award delays related to COVID-19. But now that you bring up the other point, yes. We have had to deal with some challenges relative to having our personnel out in the field to either do testing or commissioning of systems that are being installed or a variety of other reasons. So we've deployed remote commissioning tactics to help our direct customer base to work through diagnostics and commissioning activities at site. In many cases, depending on the knowledge base of the customers that you're dealing with or the direct contact that we're dealing with at our plant site. It can be challenging. Working remotely has great benefits, but in many instances, you need to be there, hands on. And so working with our systems in many cases, it's much more efficient when our technicians are able to get to sites. So, largely in this country, we've been able to deploy our people to customer sites, but we have had issues outside of this country trying to get our technicians to state specifically to address commissioning related items. And we're working through that on a daily basis.

Our next question is coming from Pete Enderlin of MAZ Partners. Please go ahead.

On the PPP loan, I guess it's a two-year maturity as it set up initially, is that correct?

Correct.

And I don't remember the balance, but it looked like a lot of it was on the current liabilities and the rest was long-term liabilities. Is that right?

Of the $1.6 million it’s approximately 700,000 current 900,000 long-term.

Right.

Yes, correct to two-year maturity program. First payment actually starts in month seven.

Okay, so that's why you have that the 700,000 as a current liability.

That is correct.

Okay. And in order for it to be forgiven, you have to keep paying people I guess, is that correct?

You have to keep paying people during certain coverage periods as defined by policy, the PPP program regulations or stipulations if you will. And companies have the option to choose between an eight-week coverage period or a 24-week coverage period. As I had mentioned to the prior caller Jim, we do expect the loan to be forgiven.

Right, so did you pick eight weeks or 24 weeks?

We have not had to specify that as of today and so we have not.

Okay. But I guess what I'm getting at in way is that, you kept paying people so you take a hit on your operating line in exchange for at some point in the future, presuming this is forgiven and effectively non-recurring gain, which would be treated as such I guess. So maybe the way to look at this in retrospect is going to be over the whole period of the loan because you're incurring expenses by paying people and then you get the money back later on when it's forgiven. Is that the right way to look at that?

Assuming that the loan is indeed forgiven Pete yes, we will take a call it a benefit due to income, or the value of that loan at that point in time when that loan is formally forgiven.

Right okay, thanks. And then remind us - I know it's a fairly old issue, but what was the warranty issue in the APC segment that caused this payment and the insurance issue and all that? What actually was the warranty problem?

Right, we actually had this is a project that commenced in 2015, and then went through execution over the subsequent four-year timeframe. The project had some delays, but effectively just at a high level Pete. We actually designed our system in a manner that was different than the specification. And I'll leave it as simple as that, our design was call it structurally sound and would have met all performance guarantee requirements. But we deviated from a, one piece of the design specification. And as a result, we needed to make some changes to some of the steel structures that we provided.

Okay. So basically you had to redo part of it and that cost you 1 million plus I think forgotten?

That is correct.

Okay then, lastly you have this new agreement for DGI with Kadance, and the terms change somewhat related to exclusivity. What areas are exclusive now and how has that changed and what areas do you have non-exclusive rights?

Everything that we had that was exclusive previously Pete, is still exclusive today. So anything related to electric utilities and independence power producers that ours, anything related to forest products and biomass, oil and gas, cement, carbon black, glass, steel and metal products. That's all those are all Fuel Tech markets exclusively. What was added was the ability to - for us to address on a non-exclusive basis aquaculture any freshwater and seawater applications in anything related to livestock agriculture. So we added some additional market opportunities to the overall list, which ultimately could provide benefit.

Okay, and are there geographical limitations in any of that?

There are for the agreement, none of that changed from the original agreement. So Pete, it's largely a domestic focused agreement, but with the opportunity to look to expand that to other geographies if we approach the licensor.

In other words, you would have to reach an agreement with them on any other geographical areas?

It is correct, yes.

Okay. Well, thanks a lot for all the clarification and good luck with dealing with all these challenges on multiple fronts from operating rates to new contract rates to development programs and all of that and good luck. Thank you very much.

Thank you, Pete. Appreciate your support. Have a good day.

Thank you. At this time, I'd like to turn the floor back over to Mr. Arnone for closing comments.

Thank you, operator. I'd like to thank everyone for the continued interest in Fuel Tech. As our last caller noted Fuel Tech like many companies today is working through several challenges. We still think we're well positioned to be able to pull ourselves out of this challenging environment today and return value to our shareholder base. That is our company's objective. So thanks again folks and have a good day today.

Ladies and gentlemen, thank you for your participation. You may disconnect your lines or log off the webcast at this time, and have a wonderful day.