Workhorse Group Inc. quarterly report, Q2 FY2020

Workhorse Group Inc. — Q2 2020 Form 10-Q

Reporting period: Quarter and six months ended June 30, 2020. Workhorse designs and manufactures electric commercial vehicles and related telematics, with a focus on ramping production of its C-Series delivery trucks and fulfilling its backlog. The filing was signed August 10, 2020.

Financial performance and liquidity

• Revenue in Q2 increased with initial C-Series production; first-half revenue fell year over year as the company shifted toward C-Series development and sold fewer trucks. Cost of sales rose with C-Series labor and materials.
• SG&A and R&D increased year over year, reflecting higher consulting and employee-related costs, incentive stock expense, C-Series design work, and a $1.0 million selling expense.
• Interest expense was dominated by noncash fair-value changes and conversion losses on the convertible note and warrant liability, with stock-price movements cited as a key driver. It substantially amplified reported net losses relative to operating losses.
• Cash and cash equivalents were $26.2 million at June 30, 2020, versus $23.9 million at December 31, 2019. For the first half, operating cash use was $17.8 million, investing cash use $1.0 million, and financing cash inflow $20.1 million, including $18.6 million from warrant and option exercises and $1.4 million from a PPP loan.
• Current assets were $35.2 million and current liabilities $105.2 million, implying a working-capital deficit of about $70.0 million. Stockholders’ deficit was $70.5 million.
• At June 30, the balance sheet carried the existing convertible note at a $95.3 million fair value (contractual principal $18.5 million) and $1.4 million of PPP debt; $19.9 million of mandatorily redeemable Series B preferred stock was also classified as a liability. The existing convertible note was fully converted by August 3, 2020, according to the filing.

Material changes and significant transactions

• The company’s operating loss worsened year over year in both the quarter and first half; first-half revenue declined, while operating expenses increased.
• Common shares outstanding rose from 67.1 million at December 31, 2019 to 89.3 million at June 30, 2020, principally reflecting warrant exercises, note conversions, preferred dividends paid in shares, and other equity activity. The cover reports 105.1 million shares outstanding as of August 4.
• On July 16, 2020, Workhorse issued a new $70 million senior secured convertible note, receiving $69 million before expenses after discounts. It bears 4.5% interest, is due July 2023, and proceeds were intended for truck production working capital and general corporate purposes.
• In connection with the LMC transaction, Workhorse reported a 10% LMC interest valued at $13.1 million at June 30. Subsequent to quarter-end, LMC agreed to merge with DiamondPeak; Workhorse’s August 1 agreement specified 9.99% ownership of DiamondPeak after closing and a $4.75 million Royalty Advance. Completion remains subject to conditions and is not assured.

Outlook, risks and contingencies

• Management said existing capital resources, including warrant proceeds and the July note, were expected to support projected funding needs into 2022, when additional funding would be required. The company expects to need further equity or debt financing absent sufficient revenue and cost reductions; such financing is not assured and could dilute shareholders or impose restrictive covenants.
• The filing states that limited revenue, recurring losses, negative working capital and stockholders’ deficits raise substantial doubt about the company’s ability to continue as a going concern. Management nevertheless believed financing and anticipated revenue offered an opportunity to continue operations.
• Management described a production ramp-up and cost-down strategy, with a goal of achieving gross-margin profitability on the last-mile delivery truck platform. It cited EPA certification for three C-Series trucks, California-related sales approval, a Ryder partnership, and claimed fuel-economy and lifetime-cost benefits; these are company expectations or claims, not reported financial results.
• COVID-19 could disrupt suppliers, manufacturing, workforce availability, liquidity, cash flow and customer orders. Operations remained active at the filing date, but duration and effects were uncertain.
• A patent-infringement case was settled June 30 for $250,000, paid in July. A wrongful-death lawsuit concerning a W-42 truck remained pending; the company disputed that it manufactured the vehicle and was seeking dismissal. The filing does not provide a clear estimate of potential exposure.
• The PPP loan may be eligible for forgiveness subject to program requirements; the company had not applied for forgiveness as of June 30. Series B preferred stock carries an 8% annual dividend and is mandatorily redeemable in 2023.

Important facts for investors to verify

• Whether C-Series production, deliveries, backlog conversion and gross margins improve enough to reduce cash burn.
• Cash availability and financing needs after the July convertible-note issuance, including the note’s conversion, redemption and dilution terms and the company’s liquidity covenant obligations.
• Whether the LMC-DiamondPeak merger closes and the expected ownership, Royalty Advance and royalty economics are realized.
• Actual effects of COVID-19 on manufacturing, suppliers, customer demand and cash flow, and the status and potential cost of pending litigation.
• The scale and timing of further capital raises, and resulting dilution, given the going-concern warning and substantial working-capital deficit.