Tecogen Inc. (TGEN) Q2 2022 Earnings Report, Transcript and Summary

Greetings, and welcome to the Tecogen Second Quarter 2022 Results Conference Call. [Operator Instructions] Please note that this conference is being recorded. With us today are Benjamin Locke, CEO; Abinand Rangesh, CFO and Treasurer; and Jack Whiting, General Counsel and Secretary. I'll now hand it over to Jack Whiting to begin. Please go ahead. Sir, you may be muted, please go ahead.

Good morning. This is Jack Whiting, General Counsel and Secretary of Tecogen. Please note this call is being recorded and will be archived on the Investors section of our website at tecogen.com for two weeks. The press release regarding our second quarter 2022 earnings and the presentation provided this morning are also available in the Investors section on our website. I'd like to direct your attention to our safe harbor statement included in earnings press release and presentation. Various remarks that we may make about the company's future expectations, plans and prospects constitute forward-looking statements for purposes of the safe harbor provision under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in the company's most recent annual report on Form 10-K and quarterly reports on Form 10-Q under the caption Risk Factors, which are on file with the SEC and available in the Investors section of our website under the heading SEC filings. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so. Therefore you should not rely on any forward-looking statements as representing our views as of any date subsequent to today. During this call, we will refer to certain financial measures not prepared in accordance with generally accepted accounting principles or GAAP. Reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures is provided in the press release relating to our second quarter 2022 earnings and in the Investors section of our website. I'll now turn the call over to Benjamin Locke.

Thank you, Jack. As the agenda on Slide 4 indicates, we'll start with a brief company overview, followed by a detailed review of our second quarter 2022 results. We will then discuss the key takeaways from earnings and turn the call over to the operator for questions. As a reminder, this presentation will be available for download in the Presentations section of our investor page on our website. Turning to Slide 5. I'd like to provide a short overview of Tecogen's core businesses. Tecogen sells and maintains clean and efficient energy systems that provide resiliency and energy savings to customers while reducing greenhouse gas emissions for a cleaner environmental footprint. Our solutions help industries and facilities reach their environmental goals for carbon reduction, while also providing resiliency to grid outages. Tecogen has deployed thousands of these systems, and we have a steady recurring revenue stream through our 11 service centers to provide long-term operations and maintenance services for Tecogen cogeneration and chiller systems. Turning to Slide 6. Many of our distributed generation systems operate as microgrids, as shown on the left here, with the ability to maintain operation during a grid outage. As the grid becomes increasingly burdened, congested and costly, this microgrid feature provides relief from peak electric rates and resiliency to outages. In addition to our distributed generation systems, Tecogen offers industrial-scale chillers with lower operating costs and a reduced greenhouse gas footprint compared to traditional chillers. We have had particular success with our clean cooling products for use in controlled environment agriculture. These indoor grow operations use a tremendous amount of power to maintain precise growth conditions. Our chillers substantially reduce the amount of electric capacity needed to operate the facility, while simultaneously providing heat for the facility; heating and dehumidification. And finally, on the right, our Ultera emissions technology is recognized as a cost-effective solution for reducing CO2, NOX and hydrocarbon emissions across a wide range of engine platforms and sizes. The Ultera emission comes on standard on all of our products, whether local regulations require them or not and further reinforces the clean environmental footprint of our systems. Our clean emissions exhaust stream becomes relevant as it relates to controlled environment agriculture where properly controlled carbon dioxide injection can substantially increase crop yield. Slide 7 provides some relevant facts about our clean energy systems deployed to date. With over 3,000 units shipped, we've reduced CO2 emissions by more than 200,000 tons while generating more than 2.1 million kilowatt hours of electricity from over 52 million hours of run time. These numbers continue to increase as we deploy more of our clean energy systems, which is reflected in the continuous growth of our revenues from operations and maintenance services. Before I turn the call over to Abinand for a detailed review of our second quarter numbers, I'd like to remind investors of our three main revenue streams shown on Slide 8. Our product revenue consists of sales of cogeneration units, microgrid systems and chillers to a range of markets and customers. Our service revenue primarily consists of our contracted operations and maintenance services with a small component of installation services. Our energy production revenue stream is from energy sales, including sales of electricity and thermal energy produced by our equipment on-site at customer facilities. With that, I'd like to turn the call over to Abinand to review our numbers in more detail, and then I will have some additional comments on the takeaways for the quarter and comments about our expectations for the rest of 2022. Abinand?

Thank you, Ben. Q2 revenue was $6.4 million compared to $6.1 million during the same period in 2021. This 4.4% increase was mostly due to the increase in product revenue. I will discuss the revenue by segment in more detail in a later slide. The revenue was negatively impacted by supply chain delays that meant two cogeneration units were unable to ship at quarter end. Gross margin decreased to 42% from 46% due to the higher cost of materials. We instituted price increases in January, which hasn't been reflected in the orders that shipped in Q2. Operational expenses were 11.8% higher compared to Q2 2021 at $3.5 million. The increase in expenses was due to increased G&A and R&D expenses. G&A was higher due to the increased payroll and some legal fees related to receivables collections and some other miscellaneous expenses. R&D expenses were higher due to the costs associated with the development of the air-cooled chiller. Therefore we made an operating loss of $817,000 compared to $310,000 in the previous year. Net loss was $856,000 or $0.03 per share compared to net income of $400,000 in Q2 2021. The higher net income in Q2 '21 was due to the employee retention credit. EBITDA. EBITDA loss was $741,000 and adjusted EBITDA loss was $651,000. In Q2 '21, EBITDA income was $531,000 and adjusted EBITDA was $567,000. Q2 '21 was favorably impacted by the employee retention credit. Products revenue increased by 23%, in particular, the chiller revenue increased 60%. Our product margin decreased from 43% to 33% in Q2 '22 due to increased material costs. Service revenue declined 8% compared to Q2 '21, primarily due to the decreased installation activities. Our service contracts decreased 1% compared to Q2 '21 due to supply chain issues. Our service margin, however, increased to 52% from 50%. Energy production decreased by 5%, this reduction was primarily due to seasonality and some permanent closures of sites since Q2 '21. Energy production margin remained constant at 37% quarter-to-quarter. I will now hand the call back to Ben to talk about the earnings takeaways.

Thanks, Abinand. Turning to Slide 12. I'll discuss what I feel are the important takeaways from the quarter. First, we are glad to see the product sales continue to rebound, up 23% from the second quarter of 2021. And as Abinand pointed out, this was driven by increased chiller sales, which is consistent with our increased focus on clean cooling. However, higher costs significantly impacted our margins. As Abinand said, we instituted rounds of price adjustments to offset the inflationary increases in the cost of many components of our products. Prices for components of our systems seem to be stabilizing, and our goal is to get our product margin back on par with previous quarters. We expect to continue making progress with sales in our core markets shown here, particularly in multiunit residential facilities for cogeneration and controlled environment agriculture for chillers. We are also seeing good demand for our systems and school systems where access to federal infrastructure funds, improve resiliency and energy efficiency. It is also worth mentioning that the Inflation Reduction Act recently passed by the Senate will increase the investment tax credit for both our cogeneration and our chiller systems from 10% to 30%, which will improve the economics of our systems and support continued product sales. Moving on to service. Our overall service revenues were down compared to Q2 of 2021, mostly due to some lingering installation construction activity last year. We had no construction activity in the second quarter of 2022 and do not expect -- do not currently have any planned. We continue to sell high-margin engineered accessories and load modules as part of our product segment to help facilitate easy installation of our products by contractors. We did see a small dip in contract maintenance for the quarter due to part shortages and delays, but we expect service revenues to continue to steadily increase quarter-over-quarter as we add more service contracts. Lastly, we continue to make improvements to our overall business. We have responded to the industry-wide supply chain delays and manufacturing cost increases by finding alternative vendor relationships and raising prices when necessary. We are confident that the majority of these issues are behind us and that we will still be able to meet shipment deadlines for our backlog. Still we're lining to the supply chain disruptions experienced industry-wide is that competitive products have been similarly disrupted. Given these disruptions, we are actively in discussions to engage some of these competitive products to sell our products. I hope to be able to talk more about these discussions as they proceed. Turning to Slide 13. We continue to stay focused on pathway to growth that we shared last year. We are seeing increased chiller sales in the indoor growing market where we are one of the best solutions for energy savings and resiliency, particularly when the existing electric grid can't meet the facility's power requirements. Next we are still on track in developing our next-generation air-cooled hybrid drive chiller, which will fill a gap in our Tecochill offering. The hybrid drive will substantially expand our sales potential in many markets, particularly controlled environment agriculture where an air-cooled chiller is needed, and we expect to showcase the model in February at the 2023 AHR Expo, which is one of the largest HVAC trade shows in North America. We also continue to see a promising opportunity for our technology as a foundation for clean and efficient microgrids. We have shown that a cost-effective combination of our clean cooling systems, combined with our grid resilient microgrid systems is an effective solution for facilities requiring affordable and reliable power. We expect grid supply constraints to continue as the nation's aging electric grid becomes further burdened and overloaded due to increased electricity demand. Finally, as mentioned in our July press release, we are establishing a new business unit focused on controlled environment agriculture. As we noted in the release, given the projected population growth and impact of climate issues on food production, the need for intensive farming techniques in controlled environment is expected to grow substantially. As a result of our interactions with numerous industry participants in the CEA market, we believe Tecogen will have additional opportunities to provide equipment and services that address these energy-intensive requirements of CEA facilities. We are also focusing on additional roles that Tecogen can play in developing, maintaining and operating CEA facilities and hope to have more update for investors later this year as our discussion with the participants in the CEA market progresses. So in conclusion, I hope to continue showing results against these goals and look forward to providing updates over the next few months. With that, I'd like to turn it over to the operator for questions.

Thank you. [Operator Instructions] Our first question comes from Sameer Joshi with H.C. Wainwright. Please state your question.

Good morning.

Good morning, Abinand. Good morning. How are you guys.

We are doing well. Thank you.

So first question, sort of about the new business unit that has been formed for the CEA initiative. Are there additional resources that are being added here or it is just a unit that would have been now focused with existing resources?

Yes, not currently other than some bits of time. As we've stated previously, we had established a Board committee to look at this, of which Abinand is part of. So aside from a little bit Abinand signed the board time, just mostly looking at exactly how we want to engage in this.

Exactly. Right now we're just working through some of these areas where we can add value in the CEA space. I mean, as you've seen, we've already done a lot already as just selling the chillers, but we believe that there's a lot of areas here that can have benefits. And with the CEA environment, I mean, it's -- given that it's a very capital-intensive way of growing, the best way for providers to have long-term impact is to have lower operational costs. And these are things that we can help with. So we're working with a bunch of partners, and we've seen a lot of different facilities over there, both in cannabis and non-cannabis so we have some expertise here. So we hope to make more in-depth release on exactly how we're going to approach this and what we're doing in there later in the year.

Yes. So one of the things that I noticed is that you're also working on carbon dioxide reuse the CO2 that you may emit from your systems can be used in the CEA environment itself. Can you talk about that a little bit?

Sure. So plants, as you know, I mean, the rate of growth of crops can actually be boosted substantially with the use of CO2. You can basically use the engine exhaust for this as long as it's very, very clean. And this is an area that we're looking at. There are certain things in engine exhaust that you have certain chemicals that you have to make sure that aren't present because they can affect the quality of the crop. But -- so there's going to be a little bit more testing on our side. But this is something that is done from engine exhaust before and the amount of concentration that you typically have, because you have various limits that you're allowed from the OSHA requirements. So you basically are limited by that anyway. So by injecting CO2, you can significantly boost the rate of crop production and right now, providers either buy CO2 cylinders to inject it through various pipes or they use essentially a gas burner to do the same thing. So they're spending resources to do this. And it's additional CO2 that's being generated by the facility in order to grow plants. So if we're able to do this from the engine exhaust and you were able to reduce the amount of that carbon footprint of the facility, especially in this day and age where the overall carbon footprint matters a lot. This is something that we hope will be a significant benefit for various facilities.

Got it. Just sticking on that topic or rather CEA topic, I think you intend to gain around 30% market share. But the two part question is the focus on 10,000 square feet or more. Is that because of the size of your systems that will benefit that size CEAs? And then part two to achieve this 30% penetration, what are the steps being taken, meaning, of course, creating a business unit, this is probably the first step, but are there any other initiatives.

That's a great question. So the first thing with the 10,000 square foot, really, that was tied to more of the cannabis CEA space because it's a little different when you look at cannabis versus food crops. So what we're finding is, usually, you need somewhere around 200 tons of cooling. So one of our single FDX [ph] chillers or, say, two of our air cooled chillers for a space that would be 10,000 square foot of canopy or greater. The reason for that, especially in cannabis is because the plants are releasing water vapor, that's transpiration. So you need to dehumidify the environment, you need to avoid molds, you need to also keep both the combination of temperature and humidity control in that space. So cannabis tends to be very, very energy intensive as a result. I mean it's not just the grow lights that add this. It's also just dehumidification. So what we found right now is that even in Massachusetts, where we had a bit of an early advantage and selling chillers to the cannabis space, we were able to actually get more than the 30% on market share in terms of facilities that are installed. So we hope to basically look at all the other states that are legalizing. In some states, the facilities are a little too small for a rail fit for our equipment, but there are other states like New York, New Jersey that are legalizing larger and larger facilities. So the way we tend to work with a lot of this is to work with the engineers from day one. And because we've already established ourselves in this space with a lot of the key engineers, what we're doing is working with them on a lot of the design phases. So when the facility is designed and actually comes it goes operational, they're already specified around our chillers. Ben do you want to add anything?

Got it.

Yes. No, that's about right. I guess the one thing I would add is that the last part that Abinand mentioned is tremendously important, is to be able to get the dots connected to get our chillers in a site all the way from ownership down through the consulting engineer, down to the design engineer, down to the contractors and they're doing the bidding and everything and understanding how all that those relationships work is hugely important. And I think that's a particular expertise that we have, as I'm not saying by virtue of our interactions and trade shows, et cetera. And that model, as Abinand was saying, is for cannabis, but that model is going to be a similar model as people build other CEA facilities such as for leafy greens, et cetera. So getting back to the answer how we're going to achieve that. It's through using our network of folks that we know that are involved in this and getting our equipment specified and understood.

Got it. Thanks for that color. Great helpful. Moving to -- yes, go ahead.

Yes. Sorry, I just wanted to add one further thing that on the non-cannabis space, one of the things that has typically happened until recently is a lot of it is being greenhouse type environments where they don't control the environment as much. But we're starting to see more facilities that are moving to the, I mean like a food crop facility doesn't need quite the same level of cooling or anything of the cannabis facility. But if you're able to control the environment, you're able to grow higher value from and that's really where -- that's the distinction that one of the reasons that although we have sold the non-cannabis in the past, what you're starting to see now is there's more controlled food crop facility starting to be constructed in various parts of the country, and that's really what we're targeting.

Yes. Yes. No, we agree. We are seeing the same phenomena of food being grown in controlled environment not just cannabis and more and more so. But moving on to the -- actual the 2Q results, I think maybe I misheard, but did you say that in the commentary that the two cogen units were ready to ship but couldn't be shipped. How much revenue would those have added to the top line? And was there a specific reason why you couldn't ship them?

Yes. Well, I don't want to tell you the exact amount of revenue. As you know, I'm always very sensitive about pricing of our equipment and old habits die hard. And I think it's good for us to do that. And the reasons for it as we have a vendor, I think in this case, it was sheet metal or some component that would be somewhat arbitrary maybe a year ago, but it wasn't arbitrary this time and add delays. And so we couldn't check as simple as that. And it was ready two weeks later and not even probably a week later. And off it went, but such as it goes in terms of timing of these things. And I guess just the supply chain thing is, again, it just makes it more hard to predict when things are going to drive -- and I'll tell you, just to put things into perspective are, I'm trying to make our chillers be available, always keep ahead of it, right? So that if customers need something, we will have a -- satisfying them. And that's advantageous because we're hearing lead times for competitive chiller, Trane [ph] and McQuay [ph] basic electric chillers, about 50 weeks almost. And price increases they don't maintain pricing. So as I kind of alluded to in my comments, the supply chain issues are industry-wide and we're -- even though we have our struggles, we're actually trying to find the silver linings of it and stay in front of it. And somebody could say, wow, you've got a chiller in stock, you can ship it right now? That's great. So yes, so those particular units, and that's why they didn't ship on time.

So they have shipped in. So [indiscernible] okay.

Yes, exactly. They've gone off and joined the four others. It was six in total, I think, I believe.

Got it. Understood. And then just one last one, and I think there was a lot of commentary around the price increases in the previous quarter results. But by when do you expect to see the full impact of the price increases in the gross margin, should we expect to see near 40% product gross margins by the end of the year?

We're hoping so. I mean, usually, there's -- over the next couple of quarters, you're always going to see a mix of things that were pre-price increase and some better post. So we're expecting to get to that point. And if the other thing is we're not just relying on price increases alone to kind of get ourselves back to our earlier margins of product. The other areas that we're definitely working on are reengineering some components that they are cheaper to manufacture things that are various components that we could be using alternate vendors on. And it's not just on product. We're also working our way through the service side of things as well because one of the key things, right, with service is how often you -- like your service intervals and what you do to basically change the time between when a service technician has to get to a site. If we can increase that, margins increase. So we're working across a various range of different things to increase the margins back up to where they were. So I'm hoping by the end of the year that we'll be back up there.

Great. May I ask one more question on the air chiller that is being, again, air cool chiller that is being launched in February.

Yes. Yes, sure.

Is there -- yes, is there a way to expedite the launch of it and maybe just showcase at HR or will you be needing all these months to tweak the system to make it better and ready for a big time?

Sure. It's a great question, one that our Board has asked me repeatedly. And the answer is no. We're doing it as quickly as we can. An important thing that we decided on this early on is we were not going to try to cobble something together with the existing vendors and their components and cobble something together really relying upon these specific vendors because the fear of that, as you can imagine, is what if these the vendors just decide it's going to be -- they're going to sell it to us and make a lot of money off us. What if they can't deliver and what if they just decide to go away a year from now. And so with all of those concerns in mind, we went about an approach to develop it more kind of ourselves and to do that design ourselves and the farm out to manufacture these items in the long run, that's the right and proper way to do it because we're going to have full control over manufacturing, everything. We're not going to be beholden to any of our suppliers or certainly not suppliers, of which we couldn't find an alternative for. But what that did do is that added on a little bit of time, of course, to get it to market. But again, with that said, we're still on track for it. We expect that it's going to come together later this year. We're going to be out and I think it's Atlanta Avanade [ph] is where AHR is by hook or by crook with it in February. And the whole goal is, I think I might have mentioned before, is building that runway of sales for it when it is ready. And that's what we're doing as we're talking with customers. Again, sometimes we get turned away from a prospect because we don't have the equipment that this would satisfy, but we keep the rolodex of those so that when this thing is ready after AHR, we can start selling them in earnest. So that's kind of the update.

Yes. And the other thing that we made certain design choices with the air-cooled chiller that also took a little longer, but these design choices we felt were particularly critical because New York City has some strange rules regarding chillers and the size of compressors and things that can be done. So there's only a few vendors that can actually sell chillers into New York City because of the fire department codes. So as a result of that, we designed the chiller to be one of those vendors that could actually meet those requirements. So that was part of the reason why we also did a lot of the work in-house because we wanted this thing to be capable of selling in one of our key markets. And that's part of what it took. And AHR is also one of the biggest places where chillers are introduced, and it tends to get a lot of publicity from potential customers. So it's a good forum to really launch the product on.

Great. Thanks a lot for that color and good luck. Thank you.

All right. Thank you, Sameer.

Thank you. Our next question comes from Graham Mattison with Water Tower Research. Please state your question.

Good morning, Graham.

Hi, good morning guys. Good morning. Just a follow-up on the CEA segment. What's the typical turnaround or this time on those or what's the sales cycle as you're selling those products? And is it any different than some of your existing markets?

It’s -- I would say the sales cycle is just a little bit -- a bit more predictive in fact, than perhaps cogen simply because they're going to build this facility and they're doing it in earnest when they do these things. They don't want to muck about and think about over-think things. So you get in there with -- as we were saying, with the owner or with the consulting engineer with the architect, ultimately makes its way to the drawings. The drawings get bid upon, our phone rings some four or five different bidders. We give them all the pricing. They take our bid, they bring it to the -- and on it goes. So it's a predictive process. Once it's established, it could be just a few months. I've seen them even go quicker. I've seen them, of course, go longer as well. I mean if there are things like -- everything is ready, but they're waiting to get their funding, okay, well, then we all wait around the table for them to get their funding lined up. But I would say once an owner that has its funding, has his plan is ready to go, that the turnaround is quite quick. And that's again, one of these things where I like selling chillers because it's a little more predictive in that regard.

Got it. Great, thank you. And then a question on the overall demand or bidding environment out there. How does it compare to, say, a year ago, just given some of the headline issues we've been seeing with power outages and higher electricity prices?

Yes, yes, there is. And of course, the higher gas prices ultimately help. You say, well, Ben you use natural gas, Yes, we do. But we're saving you having to use more natural gas than you would have without us. And of course, electrical generation is all-natural gas. If you just go to the New York ISO or wherever you are in the New England I saw in our case, you'll see at any point in time, especially in the past few days and weeks, that grid mix is real high of fossil generation. And the costs are commensurately high. And if you're a multiunit residential building and you've got to -- you can use this and get it into your billing, it makes a lot of sense even without the incentives. And as I mentioned, the Inflation Reduction Act, once it's completely signed, I think it's just about there, but once it's completely on done, done, done. We'll be able to articulate that to folks. And again, I'm going to come right back to chillers on it because chillers are mostly sold to entities that indeed contemplate tax liabilities and tax equity, and they can really take advantage of it. And our chiller, it might be $0.5 million will be part of a chiller plant that might be $1.5 million, right? And you draw the economic circle around that and you take 30% off for the ITC, it's pretty compelling. So I'm pretty hopeful for that as it rolls out. Again, just to put it in context for you, Graham, our chillers qualify as CHP as long as you're doing the heat recovery from that children to do dehumidification or whatever it is, it's mechanical CHP. It's defined in the Department of Energy at CHP. So just like electrical cogeneration of our typical microgrid systems, chillers are to qualify for this as well.

Great, thank you. And last question on demand. Are you seeing last year, previously, you mentioned there were some industries that were hit by COVID, such as like hotels and things like that. Are you seeing any recovery in those industries?

Yes. I mean we -- this year, last quarter or so, we announced a pretty large project with the hotel. I mean we're seeing definitely projects in those industries. There are -- a lot of the hotels in particular because of COVID, right, they didn't make a lot of capital investments. They're certainly realizing that they might have to do something here. And as Ben mentioned about the ITC, I think that could be a really big driver for some of these 4 profit type entities. I mean when you look back a few years, when you look at the solar industry, one of the things that really drove solar implementation was the ITC because solar had a 30% ITC. One of the problems that CHP always had was it only had a 10% ITC, and this didn't allow investors to use tax equity. But now with a 30% ITC, it does two things. One, it allows investors to really see CHP as part of the future. And number two, it allows them to use very different financing mechanisms to make this affordable.

Yes. The ITC thing can really be a game changer for you guys. All right, I’ll jump back in queue. Thank you so much.

Sure. Thanks, Graham.

Our next question comes from Alex Blanton with Clear Harbor Asset Management. Please state your question.

Hi, good morning Alex.

Good morning. Well, that's good news on the ITC. Have you had any inquiries based on that yet?

Not yet, Alex. It's still a little fresh off the press. And in fact, I get all my Intel, I don't read all 10,000 bajillion pages of it. We're part of a couple of industry groups that do a pretty good job pouring through it and then giving their summary of it. We've got kind of a preliminary summary of it, which I think is pretty factual that 30% ITC is as clear as they in black and white. But there's other elements to it that I'm still trying to understand and the assumption is in the next few days and weeks as GSA, whoever that puts it out that I'll get an industry -- I'll get more a detailed look at it. And then we'll, of course, the main thing after that is to communicate to our customers. And our sales and marketing team will be jumping all over that to give updates to proposals and to give mailers to folks and everything. So coming soon, I think, Alex.

So this is a way of stimulating demand in the hotel industry. Is that what I'm hearing?

It's actually across the board, Alex. It really is any for-profit entity can take advantage of this tax credit. Eventually, yes, any -- and one of the things that we really will be pushing is also any of the partners that provide financing for a lot of these projects because they're, again, ones that have used this in other forms of generation. And so this isn't just hotel. It just happens to be the center before for it.

Yes. And in fact, if you look at our market segment chart, whatever page that was and go through almost all of them do and then you look at schools and you say, well, schools don't apply, right? But no, in fact, I think school as Abinand said, it will because these ESCOs come down on these schools and municipalities and take over all the energy and the ESCOs or one that's going to be realizing that tax equity piece and they're sharp as attack. So I think if you just look at our overall market segments, there's going to be an impact here. Maybe a small YMCA here and there that doesn't have a tax liability, but I would say, by the most part, all of our markets.

Yes. I was just going to say the other big thing that it does is it changes customer perception a lot because one of the things in the past, when rebates were quite common was -- it wasn't just the fact that the customer was getting money for the projects. It was also the fact that it was essentially sanctioned by the state or by the government that this was something that customers should be doing. And this allows us to also position our product quite in front of the customer, especially some of the ones that are large property owners to say, look, this is part of the future. The government is say that CHP is one of the technologies that will be used and here is the tax rate, whether you can take it or not, this is part of -- it's not just, it's a natural gas thing, it's shown that this is far more efficient than the other technologies out there.

It's hugely important. It legitimizes CHP as far as an energy future, what it does.

Well, now you started off at the beginning saying that your equipment reduces the carbon footprint. I think I know the answer here, but would you please just clarify how much that reduction is and then relate that to the goal of the -- this new legislation in climate that we reduce the carbon footprint of the country by 40% by the year 2030. I mean that's not very far away. So there seems to be a reason for these hotels and schools and so on to be putting in equipment that can go down, can reduce the carbon footprint. And to what extent will this be actually brought about by legislation, but a legal requirement to do that. Can you address all that? That's a long question, but…

I will try. And this is -- it's a little bit more of a nuanced answer because -- so the simple reason why CHP or chillers or any of them result in a net reduction of CO2 is just because of the fact that you're taking power, you had used grid power, which would have been maybe 40% efficient. And you're basically now recovering all the heat. You've taken a system that was 40% efficient and turn it into an 80% or 90% efficient system. And that's a very sort of simple answer. The second piece of it, where the real carbon reduction comes and this is where it's -- we have to understand how the grid generates power, right? The majority of the power sources on the grid can't modulate. So your nuclear or your base combined cycle plant basically remains at a fixed power and it can modulate. So the thing that's actually modulating up and down is usually our natural gas power plant or if your solar plant out there, right? If the cloud goes over solar closes output. So what ends up making up the difference is your natural gas power plant on the grid. And that's basically a large turbine that's sitting out there, that's the best 40% addition, probably even less than that because it's cycle. And that really is what you got to compare the CHP against because that's your marginal grid-efficient essentially emissions. And when you look at it nationwide, so that's kind of -- in our latest investor deck, we kind of tried to quantify that in terms of what would one of our big 400-ton chillers offset. So basically, our chiller is really offsetting the marginal usage in that. If the marginal isn't only happening in the middle of the day, it's happening through the whole day and night because you are cycling at some point to keep the frequency. So that marginal emission is really what we're offsetting. And that -- when you factor it against that, one of our big 400-ton chillers really offset almost 600 metric tons of carbon a year, which is equivalent to taking 130 passenger vehicles off the road. I mean it's pretty significant. If you use just the average, it's a little lower, but it's still cleaner than the grid pretty much almost any state in the U.S.

Just about every scientific paper in the community and the utilities, even for that matter, acknowledge marginal emissions as the proper way to account for these things, not average emissions using average emissions fudges the numbers a bit. So Abinand said 600 tons per 400-ton chiller.

Yes.

Okay. And for an individual building or a facility, I mean how -- what's the percentage reduction?

It's really case –by-case, Alex, for any given building or hospital, depending on what their fuel source is, what else they're doing, where they are geographically and what their grid is, what their grid mix is. So it's case by case. But we're pretty good at that. I mean that's one of the things that we're very good at is understanding all of those things and understanding the grid mix and understanding when the run and when not they run when they do this and to have be really, really smart about how energy is being delivered to these facilities. And it kind of dovetails into the opportunity that we kind of see for ourselves is we see a lot of -- we see the potential of people do things very, very well and efficiently and cleanly and then not everybody does it. I just -- it's kind of my thing. I wish everyone would just listen to me, but they don't. And we see some of these facilities being developed in a way that we -- at what worst we know aren't going to be sustainable. At best, they're just going to be have huge operating costs, and we just say to ourselves, this can be done a lot better. And we have folks that we've been interacting with that kind of agree with us. And so again, and of course, the carbon reduction, it all comes together, Alex. The carbon footprint, the grid mix, everything, you want to do everything smartly and controlled in a way that's congruous with the energy future, right, and the competitive environment of these facilities. And that's the bit that I think we're good at, and we're going to try to call into some type of more opportunity for the company.

And do you think it will be driven by legislation rather than subsidies?

I think in the controlled environment, I don't think it's going to be driven by legislation or subsidies. I think it's going to be driven by market forces and what we're delivering to them compared to the competition. Anything on top of that is just gravy.

But what I mean is like the ITC, that's kind of a subsidy. What about legislation requirement legislative requirement for building some meet certain standards. Is that going to happen?

Yes, it already has happened, like the case, of course, of New York, where they have local 97 that mandates incremental reductions in your footprint over time. And at some point in time, that you're going to get start getting parking tickets, so they're going to get expensive over time. So that does exist. I'm not quite sure if whatever talent have that. But it -- Yes, Boston's past. I think you're going to start seeing more and more of that. And people are just going to -- again, legitimizing CHP as part of a solution to that because again, some people think that you're burning natural gas, you must be part of the problem. And that's absolutely not the case for the reasons Abinand outlined is that doing the things on site is CO2 reduction. And again, we're part of that energy policy. It really legitimizes everything that we're doing and saying as part of our national energy policy.

One more thing. What percentage of your indoor growing is a non-cannabis? I mean there's -- that field is growing vegetables and other products.

Yes, we've got a few Alex. We've got some lettuce. We’ve got some cucumbers. I sound like a gardener. We've got a lettuce, cumbers, tomatoes, I think Yes. Yes. So we're seeing a fair bit. We're seeing a lot more of it, though, again, that's the thing. And we're, of course, now getting involved in the trade shows in the space, not just the cannabis trade shows but now the fruit production trade shows to understand where these things are being located. What the grid mix is. And I understand Alex, I'm not going to fit everywhere. I mean I'll accept that. But understanding the geographies where we and that it makes a lot of sense, that's how we're going to make progress.

But also, what you're seeing is until very recently, like say, take app harvest, for example, right? A lot of their stuff is greenhouses. And there's not as much control done in some of those facilities, but you're starting to see more and more facilities like again, take like AeroFarms, right? They're building everything in doors now. So things are starting to move away from just the pilot phase. So a lot of the bigger producers had done now controlled pilot phase type controlled environment agriculture. So it's starting to move into that thing because originally, people thought, okay, you could just do a greenhouse. You're okay. You just open the vents and you control your temperature. But what you end up finding is that the economics of controlled environment agriculture could really come by having premium produce. And the right kind of letters, the right kind of packaging, close to the end consumer. And to do that, you have to make sure that you're not overheating that lettuce, you're not overeating or you're not letting it freeze. So people suddenly realized, okay, just opening vents isn’t enough. And then those are the kind of facilities that haven't -- there's not as many that are being built yet, but they're starting to become educated. And that's really where we're going to position ourselves to be in most of those facilities, too.

Thank you very much.

Yes, great Alex. Thank you.

Thank you. [Operator Instructions] Our next question comes from Michael Zuk. Please go ahead.

Hi, Mike. How are you doing?

Good morning. Pretty good. An educational question. Going forward, with all of our different product segments, are we emphasizing product sales or are we emphasizing total microgrid sales or a combination thereof? Because it seems to me that in the controlled environment agriculture there's room for not only product sales and chillers and everything, but also microgrid system.

Yes. Yes. You're right, Mike. What we've been trying to do is -- here's how it typically will play out -- like someone's building a massive facility, electric rates are expensive or they can't get enough power there. They need to do something. And so potentially, they could put in a CHP plant, potentially they can put -- I could sell a bunch of my inverters in there. The problem is that there's all the people in that line behind me, like maybe other CHP vendors, maybe there's a fuel cell guy and they're all jockey and they get in there. But what I would do with the chiller is I jumped ahead of that line and say, "Time out, let's get your electric chillers out and they put them on gas. And then now maybe you don't need to do anything more. And I jumped the line on everybody because there's no other competitor to myself. Now after I've done that, after I've taken these whatever, 1,000 tons of cooling and put them on gas, if they still have a little bit of electrical constraint, well, of course, I'm going to come in there with our inverters. And now maybe they don't need to have 20 of them, maybe they could just have a few of them. And so indeed, we have had some facilities do just that. We specified chillers. That took about 2 meg off their electric load. And then we added some inverter, it took another meg off their electric load and off they went. Not everyone is going to be like that. But I think the important takeaway, Mike, for you here, is the first thing I want to be selling these guys is the chiller before I get to the inverter because I get everybody out of the line at that point because nobody else is selling a gas-engine-driven chiller and this is an important piece of our sales strategy as we -- I've talked about expanding our sales network and that doesn't mean hiring new salesman, it means finding sales partners, agents, distributors that will take it to their geographies and understand it. And when I deputized one of these guys, I have enabled them to be competitive against all their peers as well. So they recognize that they are the only one that can sell our chiller in whatever geography I gave them. So I know it's kind of a long answer to your question there, Mike. But I think whenever we descend on any of these CEA or cannabis facilities, we're going to start with the chiller to get everybody out of our way. And then, of course, we'll push the microgrid stuff after.

That make sense. Secondly, we have a huge fleet of historic chillers out there. What percentage of those existing chillers are being turned over into our new generation?

Yes, it’s a good question Mike. You're hitting all the parts of my sales meetings. So yes, indeed, we have been circling through, it's really a testimony to our fleet, right? You might remember, about a year ago, Yukon had our chillers for over 20 years, and they finally got to the point where they couldn't use them anymore. So we put it, we replace those with brand new, nice shiny blue chillers. And so we indeed have a campaign to go through our fleet and not just our old chiller fleet, but indeed, even our old Cogen fleet to try to find opportunities to swap things out and get a newer product. And indeed, we have a little separate Rolodex of those facilities that are ready to roll out with our hybrid drive once it's ready next year.

And then I noticed we've gotten some incremental contracts in New York city. Do you see an acceleration of conversion in New York city to more efficient systems because of the requirements of the local legislation.

I think so. I think so. And I'll tell you, this is my opinion, Mike. But when the incentive in New York went away and electrification kind of wave hit and natural gas, the permits weren't getting hookups weren't being allowed, et cetera. That was a little concerning. I think gave people pause. But throw in some really expensive electric rates, right, and some overall high energy prices and people quickly realized, as I said, the CHP is part of the solution. And again, more of the reasons why this Inflation Act is a good thing because, again, legitimizes us and puts those fears aside in some of these facilities. So I think New York is indeed recognizing that the ConEd rates are going through the roof demand charges, these peak charges are excessive. So the economics are holding together. And even without that New York incentive that existed at the time and now throwing this ITC, I think we're going to see a little bit more activity in New York. I think it kind of fell into a low once the incentive went away, but I think energy prices in general are going to make New York kind of come to their senses.

And then one follow-up. I noticed that in the new legislation, there are tax credits available for heat pumps. And since we have the Ilios technology, which we're really not pursuing, why don't we just out-license that technology to somebody else and get a small royalty revenue stream and go forward.

You know, that’s a great point. We actually have been looking into that. But it's one of those things where it really -- there's different kinds of the heat pump, things that are being incorporated into buildings. I mean it's really -- there are some that have a central loop for hot water and chilled water. There's some that don't -- a lot of the heat pumps that you're seeing in places like New York and things where the legislation affects ends up being just unit only like for every single apartment. So it's a little bit of a harder conundrum, but it's something that we've been using on our end. It's something that might happen, but hasn't yet happened, but we're definitely aware that this is an area where there could be some value that we can unlock.

Well I appreciate the answer to questions. And I'm looking forward to a better second half now that we seem to be focused on a couple of particular areas. So congratulations and go forward.

Thank you, Mike. I appreciate it.

Thank you. There are no further questions at this time. I'll turn the floor back to Benjamin Locke for closing remarks.

So as always, I thank all of our investors for joining the call and listening to us. I'm looking forward to providing more updates as they occur. And of course, we'll be talking again next quarter.

Thank you. This concludes today's conference. All parties may disconnect. Have a good day.