Carbon Revolution Public Limited Company (CREVF) Earnings Call Transcript & Summary

Okay. Hello, and welcome to the Carbon Revolution First Half Results Webinar for fiscal year 2022. I'm Andrew Keys, and I'm facilitating today's event. On behalf of Carbon Revolution, I'd like to acknowledge the Warndarang people, the traditional owners of the land on which we work today and all Aboriginal and Torres Strait Islander people participating. We pay our respects to the elders, past, present and emerging, and recognize and celebrate the diversity of these people. Following the presentation from Carbon Revolution's CEO, Jake Dingle; and CFO, Jerry Buckle, there will be a Q&A session. [Operator Instructions] Good morning, Jake, handing over to you.

Thanks, Andrew. Good morning, everyone, and welcome to our first half financial year '22 results presentation. In the first half, we saw really positive momentum, both with sales and demand generation. We faced unexpected but short-term challenges with COGS and our COGS reduction trajectory was temporarily impacted, and we've made great progress in securing financing facilities, significantly increasing our firepower as our sales growth continues. So I'll just start on Slide 3. 3 new programs entered production during the half. The General Motors C8 Corvette and 2 new Ferrari vehicles, 296GTB and the 812 Competizione, all entered production. Our wheels were a major -- a positive element of the Corvette launch. Customer feedback on anticipated calendar year '22 demand is very encouraging, and we are seeing our wheels now being adopted by higher volume vehicle platforms, in line with the overall strategy for driving the broader adoption of this technology by the global automotive industry. We now have a record 15 active programs across the spectrum of major global OEMs. This includes a strong growth pipeline with 3 new engineering agreements. Four of our programs are EVs, up from 0 a year ago, and there's been 25% growth in the total program that we've seen, both development and production, from a year ago. And these programs that we have in progress remain on track with key customer milestones. The Mega-line project is on time and on budget. Infrastructure design is complete and construction is underway. We spent $6.5 million of our $47 million budget with further commitments in place up to -- or exceeding $10 million. And the first wheel of the Mega-line will be produced during the second half of this calendar year. If we talk about our technology is delivering a step change versus conventional tech, it's fundamentally an efficiency technology. So early adoption has been all about using our efficiency for performance. And we expect those applications to continue, as you can see, a lot of the applications on this page. Recent expected demand, however, as evidenced by the number of programs that we have in preproduction, including the 4 EVs, which are for larger SUV and pickup truck applications, certainly utilize this for range extension benefits and other associated attributes beyond just performance. As we speed passed the milestone of having sold 50,000 wheels to the market, we're very satisfied with the customer base that's been established, represents the right mix of customers, applications and geography to underpin the accelerated future demand for our technology. Pleasingly, this now demonstrates a trend towards larger wheels for SUV and pickup truck applications. And these factors continue to point towards large-scale adoption, particularly as the industry electrifies. To say the automotive industry is excited about carbon fiber wheels is an understatement. Our ability to combine performance range, style and NVH is unique and highly valued. During the quarter, General Motors announced the C8 Corvette, Z06 and Z07, featuring our carbon fiber wheels. Production for that program has now commenced. During and immediately after the vehicle launch, our wheels were a significant element of the GM publicity, also identified by the motoring [ press report ] and forums as a prominent feature of the vehicle. So we're very proud of this and the statements made by the Corvette Chief Tadge Juechter. We've included those in this presentation. And I think an important point that was made there is about the impact this technology has on the vehicle just for every day driving rather than purely just on the track. Switching to our results summary. The underlying growth in wheel sales was very strong at almost 40% increase on a like-for-like basis with the prior corresponding period. The momentum we saw at the back end of the half was very pleasing after the uncertainties of prior periods. Included the pull forward of sales for the GT500 Mustang, given our strategy of trying to run the plant as smoothly and consistently as we can, we had the wheels finished in boxes and ready to go when the orders came through late in the year. Cost of goods sold or COGS was really the one disappointing result for the half and not in line with what we had in our plan due to a combination of largely one-off and temporary issues. COVID played a role in these issues either directly or indirectly. Our plan for the [ current half ] had COGS costs reducing slightly from the good results in the first half of FY '21 and then more significantly again in the second half of fiscal '22 as volume and further efficiencies came through. In fact, our underlying COGS was largely on plan, but the result was negatively impacted by these challenges and issues. I'll provide background to those now, and Jerry will talk about the breakdown of the financial impacts in the half when I hand over to him shortly. These have proven to be extremely frustrating and they've been dealt with effectively now by the team. So I'm very confident that our cost trajectory is back on track as a result of this. The direct impacts of COVID have been felt primarily in 2 ways. In the supply chain area, our raw materials and freight costs have seen some significant increases due primarily to delays and shortages, which have been experienced across most industries here and overseas. We've had to secure air freight shipments to build safety stock and should have sufficient buffer again now to deal much better with ongoing fluctuations. Our labor costs per wheel went the wrong way as well as we saw increasing levels of absenteeism due to COVID-related isolation and sickness, particularly in the second quarter of the year and into January were it peaked. This directly impacted overall throughput to hit our efficiencies as we struggled to pull product through stages of the factories that were very short staffed, which led other areas unfit and started to flow. It's very challenging to get a factory that consists of sequential stages to flow properly when groups of skilled people in key areas can't come to work. It's very hard also to keep meeting customer demands. But of course, we always have to prioritize getting wheels out of the door for customers has to take the priority. We've responded to these labor challenges with a series of measures, including greater levels of cross-training or multiskilling and assisted by the range of measures that we've taken across the workforce, the absenteeism rate has now reduced to more normal and expected single-digit levels after peaking, as I said, in mid-January. Also emerged with more flexibility that will enable us to respond better to these kind of things in the future. We also faced and have now overcome 2 additional challenges that were indirectly impacted by the COVID situation. These are related, respectively, to equipment reliability and also to the quality control of the key raw materials sourced from offshore. Both of these are resolved, but after a particularly frustrating period. The equipment issue related to our sophisticated plasma arc barrier coating or TBC machine, which is the thermal barrier coating that we put on the inside of our wheels, the majority of our wheels. This is a patent protected coating. The equipment is highly sophisticated and specialized and were sourced from Europe. We started to see some significant quality and reliability issues relating to it from late September last year, but we're unable to access the level of support or expertise that would normally be expected from the European equipment supplier to drive a rapid and complete resolution. So their technicians were unable to travel to our site. In response, we pulled a larger team of people from within our own team and the expertise that we could access here to establish root causes and apply fixes. This was very challenging that we now have a far stronger knowledge base with this equipment and the key issues that were stopping production in the last half have now been resolved. And finally, we faced a major quality issue with the resin that's used for our diamond lead process. This new process relies on the visual quality of the resin to be well controlled. We saw a major issue with the visual aspect in our supply back to that resin. This now has also been resolved as of mid-February, and we're ramping our production back after the solution is in place. Again, we need to deploy the full weight of our own team and our technology partner, Deakin and their extensive laboratory resources, including their scanning electron microscopy to resolve the issue. Our suppliers and their own technical teams who'd normally travel out to work with us were stuck on the other side of the world as well. One of our major North American customers has been very close, particularly to the resin issue, in particular, reflected on how sophisticated and structured we've been in our approach to buying and resolving the issue of base chemistry level. They compare that favorably to what they expect to see from much larger suppliers. So on the top technology level, we're certainly seen as a company that packs well above its weight, not just in terms of developing a technology, but also resolving tough challenges that come about from time to time. So these issues have been extremely challenging. It demonstrated though the capacity of our team and the resources that we can bring to bear as we resolve them. Team's done an exceptional job in challenging circumstances. Anything that effectively stops the flow of production for an extended period is everyone's #1 priority to resolve. As Jerry will run through shortly, without these unexpected issues, our underlying COGS was largely on plan. I'm really confident that having resolved them, we're now coming back on trend. And we'll end this half back on the same COGS trajectory that we saw through last financial year, first half to second half, and we'll then continue on that track. In terms of the sales outlook, customer engagement on new programs and longer-term demand is very strong. This is the case both with existing end new customers. The global transition to EVs is driving demand for our technology with customers looking to benefit from 40% to 50% weight savings that carbon fiber wheels can deliver versus conventional wheels. And as I said in the past, range has now emerged as the primary battleground among the major global OEMs as they compete to lead this EV race. Our long-term sales outlook and pipeline of new programs is now very strong with a record level of 15 active programs, 8 awarded and 7 in the detailed design and engineering phase. Of these 15 active programs, 4 are in our electric vehicles. The 4 programs that underpin the Mega-line investment are progressing well with formal program award for 2 of these expected in the near term. Knowingly, of course, that formal award milestones are independent of the actual work that's taking place by ours and our customers' teams at a rapid pace to hit their launch milestones. So 3 new programs entered production during the half. That's the most we've ever done. This supports our investment in a dedicated launch team, which sits within Jo Markham's Customer Excellence team. Three of our older and smaller programs dropped off. That was the GT350 Mustang, the Renault Megane and the Pista, which rolled into the GTV program for Ferrari. So they've been -- and these have been all replaced with larger programs. Having 3 new development agreements signed during the half year is also the most that we've ever seen. The Mega-line is on track with spend to date of $6.5 million and further commitments exceeding $10 million. Additional commitments will be progressively as the line capacity is built out. Detailed design was finalized. Construction commenced over the Christmas shutdown period. This timing enabled the safest mezzanine construction that we could achieve and significant asset relocations were undertaken during that time. The safety performance of the team has been a real standout. As the installation proceeded, regular production activities needed to be maintained in the factory around it. With the infrastructure now in place production equipment installation will now commence. I'll hand over to Jerry now to talk through the financials.

Thanks, Jake. Good morning all. Turning to Slide 9. Slide 9 calls out financial highlights for our business for the quarter. I'll touch on these highlights now and provide more detail as we progress through the next 4 slides. It has been a challenging year, but also -- half year but also a very encouraging one. Sales were stronger than we expected in the half. And even with some challenges, we did lift production, so went forward, moved orders forward into December, we were able to deliver for them. However, we did encounter some temporary issues that have affected plant throughput and flow and our cost of goods sold. Outside of the COVID-19 impacts, the positive is of the 2 key items that have impacted performance of our plant being the performance of our thermal barrier coating machine and the resin quality issue and [ thereby ], the result. I'll cover the cost of these items in more detail in the coming slides. Our business is growing, and we have a strong pipeline of development programs. Therefore, we are continuing to build our strength and capability by investing in new technologies, the development of new programs, the Mega-line and our teams. We continue to manage our cash closely and in the half, we have finalized this phase of the Mega-line plan. The finalized plan sees the inclusion of our existing high-pressure molding equipment onto the Mega-line earlier than originally planned, which allows us to extend the planned Mega-line capital spend by over 12 months. We're pleased to announce extensions to our borrowing facilities and I'll cover these positive changes when we get to Slide 12. Turning to Slide 10, which contains a summary of our profit and loss statement, our revenue -- our total revenue of $17.6 million is 2.3% ahead of the same period last year, with very strong underlying revenue growth, 39% ahead over the same period last year. Underlying revenue is a very relevant measure for this half as it compares revenue from wheels, both shipped and sold during the period. As we stated last year, our revenue in the first half of last year included 1,344 wheels shipped in the previous financial year, June '20. But these wheels were not able to be recognized as revenue until the first half of the financial year of '21. We did not have that revenue recognition issue in this half year. So when measured on a like-for-like basis, our revenue is 39% up on the previous period. Our gross loss of $7.7 million is an improvement of 8% from the prior period. As Jake covered earlier, our plans to reduce wheel costs were delayed by both external and some internal factors. I'll cover the cost of goods sold in more detail on the next slide. We invested $6.1 million in research and development. This investment is in both new programs, finalization of our Diamond Weave Technology, and it also includes an increase of $1.5 million of amortization of our intangible assets, that's a noncash item. We held selling, general and admin costs to $9.1 million, very close to the prior period. Our other income dropped from $7.5 million to $1.7 million. The largest variance related to JobKeeper, where we received $5 million JobKeeper grants in the prior half year. And of course, that scheme did not carry through to FY '22. Moving to Slide 11. As compared to the previous half, our cost of goods sold increased by $581 per wheel. This was not planned and was well above our expectations. From a production perspective, we found the first half of this year very difficult. We encountered significant external headwinds, and we had those some internal issues. We'll go through those now. Firstly, the COVID-19 pandemic significantly disrupted supply chain during the first half of this financial year. Production for a number of our key suppliers was negatively impacted through the COVID-19 cases peak in the Northern Hemisphere winter. This led to some stock outs, it led to longer lead times. And with demand holding firm, it led to upward pricing pressure on our raw materials. To combat this headwind, these headwinds, we needed to use airfreight to cover stock outages and the unplanned lead time increases. And so we began building safety stock in the last quarter or in the second quarter of the half for those internationally sourced materials. In total, the supply chain disruptions cost the business an additional $162 per well as compared to the second half of the financial year of '21. In this -- sorry, year, as compared to second half of '21. We have now lifted our safety stock levels and the need for air freight has subsided. Next, our labor efficiency was impacted by COVID-related absenteeism during the half, especially in the second quarter. Labor efficiency was impacted by TBC performance and resin issues. These left us with poor flow through to the factory, resulting in labor inefficiencies of $105 per wheel as compared to the second half of financial year '21. With the resin and TBC issues now solved, we can restore flow [ to 0.5 meter ] production process and go after the labor efficiencies that we know exists. Lastly, the resin quality issue and the TBC performance also impacted throughput, especially finishing wheels, leading to higher indirect cost per wheel of $187 as compared to the previous half. And the resin issue also led to a one-off scrap cost of $85 per wheel. During the half, we expanded our maintenance team, bringing in some new trades and a planning role, which enabled us to achieve appropriate preventive maintenance for our plant. After removing these one-off or temporary items, we have an underlying cost of goods sold of approximately $3,350 per wheel. From a production perspective, this was a difficult half and the COGS add time did not meet our expectations. The positive is that we've now increased our safety stocks and the need for air freighters has subsided. We have now resolved the resin and TBC issues, so we can restore flow and production efficiencies and cost-reduction activities during the remainder of the year can now get well underway. Now turning to Slide 12. We finished the half with $47.8 million of cash, and we've reduced our debt position by $1.8 million with loans and borrowings now down to $14.6 million. Operating cash flows of negative $19.4 million do not include the benefit of the strong sales which pushed approximately $11 million of receipts into the second half. We also had a grant payment of $2 million delayed. This will be received in the second half of this financial year. The payment of the state of Victoria granted advance facility fee of $1.1 million in the half is also a one-off item. We invested $17.5 million into our fixed and intangible assets during the half. This included $9 million spend on Mega-line-related tooling and some other minor assets and $8.5 million spend on the development of new programs and technologies. We are pleased to announce today, we're in the process of finalizing new and enhanced lending facility with Export Finance Australia. The new arrangements will include the ability to access $23 million of new debt funding plus improved terms on our existing term debt. We have received the formal offer from EFA, and it includes a new $8 million working capital facility provided by EFA, a $7.5 million expansion of our ability to gain receivables plans, a $7.5 million expansion availability to obtain asset leasing and a 1-year extension of the loan amortization period of our existing term debt with EFA, taking this from a 3-year term to 4 years. The ability to access $23 million of new debt funding plus improved terms on our existing debt will assist us in managing our cash flow through the cash flow growth. I'll now hand back to Jake for the outlook.

Thanks, Jerry. So our focus for the second half of FY '24 (sic) [ FY '22 ] can really be broken down into 4 areas: driving sales growth from the new programs that are now in production, which includes the Corvette program, which is ramping up, sustainable increases in the Ferrari programs that we already have running and completion of the GT500 program, delivering the operational efficiencies and COGS reduction and getting that back on plan, putting the TBC performance and resin quality issues behind us to get back to consistent throughput and flow and ensure that the continuous improvement initiatives see us exiting this financial year with that strong trajectory of COGS reduction that we have in our plan. Progressing the Mega-line Phase 1, installation of the productive assets, the systems and services installation, the validation process is ahead of the first prototype production off the line and then advancing the programs that underpin that through -- for that -- for start of production. And then finally, continued cash management process focus. So we have a new borrowing facility secured, as Jerry has just talked about, an inclusion of existing assets into the Mega-line so that they're able to realize improved economics sooner. So in conclusion, it's been a challenging but also an encouraging half year. The team has shown the ability to respond well, including the ability to ship finished wheels when demand was pulled forward and being able to resolve highly complex issues with robust and permanent solutions. This agility stands us in good stead to deliver a strong second half, finish this financial year with really good momentum, both in sales and the cost reduction. Thank you, and I'll hand back to Andrew for questions.

Thanks, Jake. [Operator Instructions] Cameron McDonald from Evans & Partners.

Yes. Can you hear me, guys?

Yes.

Can I just go back and ask about the COGS? And you've some -- you called out some one-off items, but you've also called out like a lot of companies suffering from supply chain issues with freight and lack of access to raw materials. You've seen a jump in the costs, but it doesn't appear that you've been able to pass those increased costs through to your customers in terms of higher prices. Can you just talk about that when we think about the price per wheel. And what is your contractual agreements actually allow you to do or not do?

Yes. Thanks, Cam. So the -- because there's not a sort of base index commodity in our product, it's not quite as clear cut as it can be for other products, but we are actually working through that process at the moment to understand what the basis is. So you won't see anything -- you won't have seen anything in the results here, but we certainly -- there certainly are elements of our costs, which we will be looking to discuss that. We can't actually confirm exactly what the outcome of that might be today, but it's certainly -- as you'd imagine, it's certainly on our radar, something that we're working through at the moment.

Okay. And just going back to the sort of the slide around the indirect costs, in particular, what gives you this -- I mean, obviously, you've got people that haven't turned up to work, so that should resolve itself as we get back to sort of a normal environment. I'm just pulling up this slide again. So -- and then you've got the thermal barrier coating and the resin quality, how do we get comfort that, that is actually solved?

Yes, these have come out of the blue a little and hit us, Cam, in a way that we don't see typically and that's why we thought it was worth going through a fair bit of detail on them. So they are both items that actually had the impact of stopping production in order to resolve them, and that's pretty unusual. So we have the solutions for those that have enabled us to start to ramp production or to ramp production back up again. And so you can imagine the sort of inefficiencies that are created through a factory where there's a stage that isn't able to produce and you're trying to compensate around it. So I mean this is a -- it's a new technology. We don't expect to see these sort of things, and we don't expect them to take an extended period of time to resolve. It's one of the reasons we thought it was sensible to provide some background to them and explain what we've had to do and how we resolve them. But we are confident that we've got the result now and enabling us to ramp up and get back on to our trajectory of cost reduction. Because obviously, that's a key part of our focus is COGS reduction.

And just sort of 2 other questions. One is the maintenance that you've highlighted there, $384. I mean the factory is pretty new. What's happened on maintenance that has impacted something so dramatically?

So I guess you're right, it's a new factory, and it has a lot of new equipment in it, and some of it is equipment that's -- a lot of it is equipment that's being developed for these processes. So there's -- the activities that a maintenance crew does in a factory like this are different to a very mature, mainstream manufacturing environment to some degree, and they're working closely with the engineering group as well. So really a big focus for the factory apart from trying to get quality and throughput and flow is to get uptime and equipment reliability and maintainability is a big part of that. So having that planned and making sure that the fundamentals of maintenance, which are all around having the right critical spares in place when you need them, understanding the meantime between failure of different parts of the equipment and being able to be preventative about that aren't critical and particularly where they have bottlenecks in factory or areas that really can control and can constrain the flow. So we thought it was very prudent to ramp up in that area, particularly to get us through this ramp-up phase as we grow volumes through Corvette and other things. So the maintenance activities, the underpinning of maintenance is the same, but the sort of equipment that's being worked on has less maturity, obviously, because of the nature of what we do, than you would see in a much more conventional factory, but we still refer to it as maintenance because that's fundamentally what it does.

There's also just a natural progression here. We do have newer assets, but they are a few years old now. Typically, what you see in a plant with newer assets, as they do become aged by a few years, you just do need to increase maintenance spend. So we've needed to bolster the team. We do have some new trades. We've got a planning role in there. We haven't had those roles in the past, and it's just there is more assets. There's a couple of years age on them. So we just need to list our preventative maintenance. I think it's quite natural for a reasonably new plant to start investing in maintenance activities after a couple of years.

It's also, I guess, final comment on that is just if you look at the challenges we had with the thermal barrier coating equipment, which is sourced out of Europe, having a team that's far more capable of diagnosing and maintaining that equipment is again prudent if it's still difficult to get people across here from overseas with expertise and just made sense for us to have that expertise in-house as well. So -- and it can offset against having to bring in external contractors that cost external dollars as well.

Yes. No, I appreciate that. And just a final question. Just on that -- with the cash COGS versus the total, is it right that it's just the sort of the [ $500 million ] depreciation and warranty provision that we should be considering as noncash?

Yes, that's right, Cam.

Next question is from Hamish Murray at Bell Potter.

Can you hear me?

Yes.

Just to continue from where Cam left off just on cash COGS. Does that mean offsetting I guess the direct costs went up by [ 256 ], and then you also got the price increase of [ 204 ]. Does that mean that it's correct to think that COGS loss on a cash basis is around [ 270 ].

Yes, I think you're about right there, Hamish, yes.

Okay. And just, I guess, the one thing just looking at this COGS profile, obviously, the labor element for you guys is really disappointing and unavoidable, but what can we expect from the efficiency gains? Because it doesn't look like the high-pressure molding and some of the other incremental improvements are coming through. Do you have any, I guess, comments around that and what we can expect?

I think as I said, Hamish, I think it's very, very hard even with the sort of reconciliation that Jerry did, given the interruptions to the facility really from these -- the 3 of the 4 items that we talked about. The plan is still robust. We're still very confident that the industrial technologies that we've implemented here are delivering and will deliver the savings and the efficiencies that we've talked about in the past. So there's no stepping back from that whatsoever. When you have stoppages in the plant because your resin has cloudiness in it and it doesn't meet esthetic standards, and you have to stop and diagnose it or when a key piece of equipment like thermal barrier coating is not delivering what it needs to deliver them, there's the direct impacts that we've talked about here, but the knock-on throughout the factory makes those sorts of efficiency elements really hard to achieve and to see. So I take your point, but we're not -- the plan hasn't changed. We're back on track basically.

No worries. And just I guess in regards to programs, is there -- you guys have provided that you're pretty confident with the forward orders you're seeing in the systems, can you provide any color around that, I guess. I know you don't like to talk about individual programs just individually, but we haven't seen the Corvette pricing out just yet, but I assume everything is going to plan on that side of things in terms of sales?

Yes, it is, Hamish. I mean we're still seeing good trajectory, as we said, from all customers across calendar year '22. GM haven't released those details yet for the Corvette, but we're pretty confident that this will be a strong program for us. Certainly, the way they launched and the response and the qualitative and anecdotal feedback is that it will be very well received. So we're expecting -- we've got a very positive view on it.

And then just one more. Could you provide any color around, since these launches have occurred and you have signed some new programs with existing OEMs, what the attitude from other OEMs has been to these launches? Have you had inquiries? Or can you provide any color around the pipeline?

In general terms, Hamish, yes, we do have inquiries and things that we don't record them because they've not actually got any contractual agreements or arrangements attached to them yet. We don't do that, but they certainly -- I assure you there's certainly increasing uptake in interest, and we're obviously working hard to try to convert that. I'll be traveling back. It's been a difficult last couple of years in terms of getting face-to-face with customers. We've managed. Everyone's had to deal with the same thing, but I'll certainly be back in the market fairly soon, actually, through this next half and trying to make sure we drive these 2 to the next stage or to awards and formal progress where we don't currently have those things across some of these additional customers that we haven't spoken about [indiscernible].

Okay. Thanks, Jake and Jerry. There are no more questions online or raised hands. Thanks to all the attendees for tuning in and participating. We wish everyone a good day, and we will close the webinar there.