FUELCELL ENERGY INC quarterly report, Q2 FY2018

Business context and reporting period

FuelCell Energy, Inc. designs, manufactures, installs, operates and services stationary fuel-cell power plants, and develops complementary fuel-cell technologies. This unaudited Form 10-Q covers the three and six months ended April 30, 2018, the company’s fiscal second quarter and first half, respectively. Dollar figures below are in millions unless stated otherwise.

Financial performance and position

First-half revenue rose 59%, principally from the 20 MW Korean HYD order and the Tulare project sale. First-half gross margin improved to 6.7% from 5.9%; however, the second quarter recorded a gross loss. Unrestricted cash was $67.0 at April 30, 2018, versus $49.3 at October 31, 2017; restricted cash was $38.2, bringing total cash and restricted cash to $105.2. Total debt and financing obligations were $91.6, including $46.1 related to sale-leasebacks. Total assets were $367.6 and total liabilities were $193.4.

Material changes versus prior period

• Second-quarter revenue was nearly flat year over year. Product revenue increased, but service and license revenue fell 75% to $3.2 million, mainly because fewer module replacements occurred. Advanced Technologies revenue declined 32% to $3.7 million, reflecting project timing and contract mix.
• First-half product revenue reached $41.7 million versus $2.5 million, mainly from the HYD order and Tulare sale. Product gross profit was $1.6 million versus a $4.7 million loss, but low production continued to cause fixed-overhead under-absorption. Production ran at an annualized 25 MW versus 35 MW in the comparable prior-year period.
• First-half operating loss narrowed by $4.1 million, supported by improved gross profit, lower research and development expense and no restructuring expense; second-quarter operating loss widened by $1.2 million.
• First-half operating cash flow benefited substantially from a $31.0 million inventory reduction and a $24.4 million accounts-receivable reduction, largely associated with HYD deliveries and receipts. Investing cash outflow was $27.3 million, including $21.7 million for project assets.
• Common shares outstanding increased to 84.9 million from 69.5 million at October 31, 2017. Series C preferred conversions reduced the preferred carrying value by $15.6 million and generated $7.7 million of first-half deemed dividends, which increased the loss attributable to common stockholders.

Outlook, risks and unusual items

• Management stated it believed available cash, operating cash flows, borrowing availability and capital-market access would fund operations for at least 12 months. It also said positive operating cash flow depends on higher orders and production, cost reductions, and growth in generation and service portfolios.
• Management was evaluating an increase in production in the second half of 2018. Fiscal 2018 capital expenditures were forecast at $11–$13 million. The company reported 11.2 MW operating and 62.3 MW in process, including 39.8 MW of LIPA awards not yet in backlog; the LIPA awards and Korean service agreement represented about $936 million of potential future revenue, subject to definitive agreements and project assumptions.
• Contract backlog was approximately $681.9 million at April 30, 2018. Management expected projects in process to generate $50–$60 million in annual recurring revenue once operational; timing, completion, financing and retention or sale of projects remain uncertain.
• Hercules debt was amended in March 2018: the company drew $13.1 million, with the stated loan maturity extended to October 2020, subject to performance milestones. The loan bears 10.15% interest and includes a minimum unrestricted-cash covenant. The company reported $40 million of undrawn NRG project-financing availability, subject to conditions.
• Key risks include ongoing losses, dependence on additional orders and financing, long project cycles and upfront funding needs, restricted cash requirements, low production and cost absorption, customer and strategic-partner concentration, uncertain government contract funding, and performance obligations. NRG and NRG Yield represented approximately 52% of second-quarter revenue, largely reflecting the Tulare transaction.
• Unusual items included a $10.8 million product-revenue recognition from the $11.2 million Tulare sale to NRG Yield, a $0.5 million impairment on a terminated project, and a $3.0 million first-half tax benefit related to the Tax Cuts and Jobs Act. Management reported no material accrued legal contingencies and no material changes to previously disclosed risk factors.

Important facts for investors to verify

• Whether the reported 12-month liquidity outlook remains supportable after considering restricted cash, the Hercules cash covenant, debt service and project-construction requirements.
• Whether backlog and announced awards, particularly LIPA and the Korean project, convert into funded definitive contracts and meet expected schedule and economics.
• Whether production volumes and unit costs improve enough to reduce overhead under-absorption and support sustained gross margin improvement.
• How much of first-half operating cash generation was temporary working-capital release, and whether receivables and inventory can be replenished without renewed cash pressure.
• The potential share dilution and cash obligations from remaining Series C preferred installments, Series C and Series A warrants, and other equity awards.
• Whether service performance, project guarantees, purchase commitments of $48.1 million and project-sale tax-credit indemnities create additional cash needs.