Fluence Corporation Limited (FLC) Earnings Call Transcript & Summary

Thank you for standing by and welcome to the Fluence Corporation Fourth Quarter Update Conference Call. [Operator Instructions] I would now like to hand the conference over to Mr. Richard Irving, Chairman and CEO. Please go ahead.

Thank you, operator. Good morning to those of you in Australia, and good evening to our U.S. listeners. It's a pleasure to join you on the call. Thank you for joining us. Please note that all financial references today are in U.S. dollars and subject to audit finalization and that we will be making forward-looking statements, which are protected under the safe harbor provisions of Australian securities law. So you will have seen the release that came out this morning, business update and the slides accompanying that in the 4C. It would be no exaggeration to say this has been a very tough year. I think probably for all of us entirely because of the COVID pandemic. We've had a number of employees come down with COVID, although, fortunately, none of them became seriously ill, but most importantly, from a business viewpoint was the difficulty in traveling. We found that the airports were closed, country borders were closed. And in China, in particular, it continues to stay, provinces and cities open and close at regular intervals or irregular intervals. It gets pretty difficult to anticipate how to plan your travel. What's been very interesting, though, is that we've learned a new way of doing business. I think as many others have, we've realized there are ways to get business done over Zoom that we never anticipated and over video conferencing in China. That has worked well for us to a point that it has slowed down orders. And as a consequence, I have to say, bearing all of that in mind, I think we're delivering tremendous results here in achieving our first EBITDA-positive full year and meeting SPS or Smart Product Solutions guidance. And bearing in mind continuing COVID headwinds, we continue to feel very positively about 2021. So looking at the numbers that have come through for 2020, we see revenues up 58%, which is dramatic growth over 2019. And we continued to reduce operating expenses a further 28%. So those dropped from more than $40 million in 2019 to $29 million in 2020, and that includes depreciation, et cetera. So that is what's behind being able to achieve an EBITDA positive of $1.4 million for the full year of 2020. And we achieved very positive cash flow. So very happy about that to maintain a strong balance sheet. And the strong SPS sales performance, I think, is a tremendous achievement, as I said, in light of COVID travel restrictions, in particular, the fact that we were able, in spite of all of the things, with the restrictions, to grow our SPS revenues in China by 38% between 2019 and 2020. so again, an outstanding result there. We've also made very good progress on the Ivory Coast project. Having received $60 million in Q4, this project will now be cash positive for us from this point on. This is a very important project for us because we're going to be building a water treatment plant in Ivory Coast. That's taking very unpleasant, very polluted lake water with some very nasty bacteria and turning it into drinking water, which would be capable of meeting the needs of 1 million people a day. So a very, very good international reference for us, but also, as we've talked about with the shift in strategy, the Ivory Coast project is the way that we have the cash flow and the profitability to achieve that shift to emphasize sales of Smart Product Solutions. So just a reminder on the strategy that we articulated in November, we're focused now on achieving MABR sales, our wastewater treatment solutions in China and Southeast Asia. Why these geographies? They are the fastest-growing, where we've already got good partners and see the prospects for more. In addition, we're focusing on NIROBOX, our desalination solutions in the Middle East and Southeast Asia and, of course, excellent execution on the Ivory Coast water treatment project. All of this, as we said in the release, is intended to take us, after the Ivory Coast project has finished, to a business model that would be on the order of 35% gross margin, about 20% operating expenses and thereby delivering a 15% EBITDA as we grow profitable revenue sources. So as we said -- as I said before, COVID headwinds do continue. They haven't gone away, and we really don't know quite how long they're going to last, which is why in guiding for our Smart Product Solutions revenue in 2021, we've given a pretty broad range, $35 million to $50 million. I hope the headwinds don't last all of the year, if they did, then that might -- we'll be more toward the lower end of that range, but we're going to do everything we can to exploit the growth we have. What's very, very important is that our volume partners, our existing volume partnerships that we've publicized in China, there is a substantial amount of volume from that anticipated in those announcements that remains to come for us, and we see no change in the expectations of those partners in deploying that volume. So that's a very important part of our story going forward. In fact, I would say partnerships are the key to our future in every geography. We certainly want to manage, maintain and build those 3 volume partnerships we have in China. We want to form new partnerships, ideally even at the national level, where, in other words, a partner we would have in China would be -- have national scope and not just at the provincial level, and thereby, inferring much larger sales. But partnerships are also very important for us to build our business in Southeast Asia, in the Middle East and indeed, elsewhere. So all of these geographies, partners will continue to be very, very important for us. And the reason I say that is because in the early days of selling MABR, a brand new technology, we really had to go and sell it directly to the customers. Otherwise, they would have all -- far too many questions for somebody that was more at the partner level to successfully sell it. But the fact that we now have 235 MABR plants out there means this is really a proven technology, and thereby, something that's much easier for partners to sell. And of course, as we've seen in China, those partners tend to come through with tens of orders for plants at a time as opposed to we're selling one plant at a time. But again, those partnerships will be important for us in the Middle East, and we have several discussions that have been going on for some time there, including some sales on the back of those and potentially in the U.S. And indeed, we do have profitable business in other geographies, as you know. And our goal there for partnerships is to find partners who can help us to offset the cost of businesses in those geographies that we would say are not in our core focus for the future. And then one final thing I'd like to say is regarding recurring revenue. Those of you that have followed the story for a number of years know that this is something we have talked about a lot in the past, but maybe haven't referred to so much recently. We still believe that there is a tremendous opportunity to sell water or wastewater treatment by volume instead of selling capital equipment. And in fact, this is a far more attractive business model for those geographies where we feel it's well suited. And we feel that the best opportunity we have there, most likely is around water reuse because of the very low operating cost of our MABR technology, but indeed, we do in certain geographies have a good case for desalination. As you know, we have a recurring revenue project already in the Bahamas operating successfully. So that remains an important thing for our future. But in addition, when we talk about recurring revenue, another element that you'll be hearing more about regards operation and maintenance contracts. Because we have such a large number of plants deployed and because we collect data on those plants, we have a tremendous amount of operating data. And thereby, we're in a very good position to sell value-add services to our customers to help them operate the plants more efficiently and more profitably. So that's another good source of recurring revenue. So that's really, I think, a good snapshot for me and where we've been for 2020 and where we're going in 2021. And I'd now like to turn the call over to Francesco to give a bit more detail on the financials.

Thank you, Richard. Fluence unaudited revenue of $23.5 million for the quarter, $96.5 million for the 2020 fiscal year, up 58% on the prior year, this strong growth was underpinned by the Ivory Coast project and the continued growth in SPS sales. While new SPS sales in China are tracking at a lower-than-anticipated pace, primarily impacted by disruptions from COVID-19, Fluence [indiscernible] overall revenue growth of 87% in Q4 2020 compared to prior quarter and 23% in the prior year. All research and development costs were expensive over the year. Overall operating costs reduced by 28% from the prior year. Fixed costs as a percentage of revenue are 30% in 2020 compared to 66% in 2019. Underlying EBITDA for the financial year was positive $1.4 million compared to a loss of $23.6 million for the prior year. This is the result of several factors, including the margin contribution from Ivory Coast project, the growth of SPS sales and a reduction in fixed costs. On the summary financials chart in today's release, we refer to underlying when presenting the EBITDA. The amount of $11.8 million in the normalization line for 2020 mainly includes nonrecurring write-down of the San Quintin asset on the balance sheet, which is excluded from the underlying EBITDA. Moving on to cash flow. We received $75.3 million in payments from customers during Q4 2020 and $122.4 million for full year, with net cash from operating activities of $33.4 million in the quarter and $22.2 million for the year. In the same quarter, the company invested $32.9 million in short- and long-term deposits, of which $27 million is applied as a collateral for bank guarantees for the Ivory Coast project. The cash and cash equivalents were $41 million at the end of December 2020 compared to $31.2 million at the end of September 2020. Finally, Fluence had a contract backlog of $226 million at the end of December 2020, up from $215 million at the end of the prior quarter, including $158 million related to the Ivory Coast project and $68 million for SPS and other sales. I will now hand back the call to Richard. Richard?

Thank you, Francesco. Operator, would you mind just reminding our callers how to submit questions on the web interface? And then we'll go to the Q&A.

[Operator Instructions]

So Francesco, I see a bunch of questions on China, why don't you let me tackle those, and then I think there's some of a more financial nature you may wish to address. So let me have a go at some of these. So first of all, there's a question about how do we manage business risk, particularly given worsening relations between China and U.S. and Australia. A very good question because certainly, our China business is extremely important to us. And I think what's very important to say are 2 things. First of all, we have a completely self-contained team in China, which is Chinese. We have our factory making the MABR for global needs and we have 2 assembly facilities and we have 2 sales offices. These are the people who have direct relationship with the customers. In addition, recall that the MABR technology, which is what we're selling in China, was invented, and continues to be developed, cast, produced and evolved in Israel. So in the mind of our Chinese customers, and this is very truthful, this is Israeli technology, which is being deployed. And I think by that means we are effectively avoiding, I think, the geopolitical issues. I think there's also some questions in regards to China about what's making up some of the sales there. Our China sales are focused at the moment on MABR in a number of forms. When we started selling plants in China in 2017 and '18, it was really kind of a mid-sized set of units. These would be treating wastewater for maybe 1,000 to 3,000 people. So it need to be going to a reasonable-sized installation. Then we introduced SUBRE, which can do larger greenfield plants, such as we've been building up in the north in Liaoning province and elsewhere, including in Jamaica and in the Philippines, and then more recently, still, we came out with the Aspiral Micro, which can go down to literally a few households worth of wastewater. This gives us a very broad spectrum of products and is very applicable to the market in China, where all 3 of those segments, scattered installations, midsized and then the larger greenfield and central plant upgrade market, are all very, very good opportunities for us. So we anticipate that there'll be increasing orders in all 3 of those areas. We're already seeing, I think, very good uptake for the Aspiral Micro. And I think maybe Francesco, why don't you let me give you a turn here at answering some of the questions like question on restructuring charges and San Quintin also.

Yes. So -- but I will start with several questions on San Quintin and what that write-off means for revenue and accounting done in past fiscal year. So San Quintin has been accounted for according to IFRS 12 construction service, which allow the company to capitalize the cost incurred during construction and all the other costs incurred on the project but instead of reducing the cost that required the capitalization to go to the revenue line. So cost incurred offset by the revenue for the same amount and capitalized mainly as intangible assets. So the write-off in this case, which is due to information and situation that were not anticipated or known at the time the revenue were recognized will have no impact on the past revenue or profit and loss related to mainly 2018. So the write-off is the write-off of what has been carried over fiscal year after fiscal year in the balance sheet, mainly in intangible asset line item.

Great. Thank you, Francesco. I think there's also a question -- I also see a question here regarding cash headroom given the fact that some of the cash is locked up as collateral. Maybe if you can unpack that, that would be helpful.

Yes. Let me -- that is -- there are a few questions about short-term and long-term investment that we reported. Those are mainly bank deposits that are restricted as a collateral to bank guarantee issued by the company in favor of the client, mainly in relation to the Ivory Coast project. This is typical of those large construction projects in which there are performance of the supplier, in this case, the main contractor, Fluence; and the beneficiary is the customer. Those collateral will be progressively released during the next 18 months, while we execute the contract, and we deliver the work to the client.

Okay. Thanks, Francesco. And I think there's also a question on the $7 million restructuring reserve. I think maybe if you could unpack that, that would be helpful.

Yes. So we disclosed that destination in the past as a potential cost of redirecting the strategy of the company. Some of those costs have been incurred or accrued in 2020. We don't have those costs included in our financial. And those remain still future estimates related to developing new channel to the market, developing new geography or reorganizing existing business that is today in the Fluence group.

Great. Thanks, Francesco, appreciate that. And I think there's also a question about how the Ivory Coast revenue is likely to come in? How much is in '20? And what do you think for '21 '22?

So in term of revenue, this is a 24-month construction contract. We started actual construction on January 4. That set the clock for the 24 months. So most of the revenue, if not all of them, will be recognized by the end of 2022. We might have some -- for sure, most of the costs will be incurred by the fiscal year. There will be some activity related to the start-up of the plant going into 2023, but at the point, what will be left in terms of revenue recognition, will be less than 5% of the total value of the contract.

And can we give any detail on what we incurred in 2020 in terms of Ivory Coast revenue?

So in 2020, we recognized $35.9 million of revenue. We incurred about $27 million of cost. So the revenue contributed in terms of gross margin for the difference between those 2 numbers. There is something to be clear about the gross margin versus the contribution to the EBITDA, especially in 2020, most of the costs, the project costs, were related to engineering, so was related to our engineering, of employee of the company and other charges that are part of our fixed cost. So the contribution to the EBITDA was higher than what we will expect going forward, when during construction, most of the costs are related to equipment and subcontractors.

Great. So I see a number of questions here regarding SPS contract announcements, partnerships and discussions and what is underpinning our guidance. Maybe taking those in reverse order. The guidance we've given, it's certainly true that we anticipate further growth in China. I believe we disclosed that China revenues were up 38% this year and the residual volume that we anticipate from the 3 volume partners is an important part of our China business for certain, but there are other partnerships in discussion and not just in discussion. For example, you will have seen the announcement in the last year that we sold initial plants to Beijing China Rail and to the Three Gorges Group environmental division, which is fixing the Yangtze river basin. And those are the kind of partnerships we would like to forge on a volume level as well as others, but we haven't disclosed. So we anticipate progress on all of those during the year that would increase the number of partnerships that we have. There's a question, too, about when will we close new partnerships. We have certainly been slowed down on that front by the COVID travel restrictions in China. It's vitally important to consummate these volume partnerships that they would be one or more face-to-face meetings. This is something we can't do by Zoom. And that has definitely hampered us. In some cases, meetings have been delayed by several weeks or even a few months because of rotating shutdowns either in one province or another. So those are challenges that we just have to figure out a way to work our way through while continuing to do everything we can to service the partners that we have. But I would say, too, let's not forget about the importance of the business outside of China. It's not just about China for smart products. We have some very important business going on in the Philippines, in Vietnam, in Cambodia, and of course, in the Middle East around desalination. And all of those are important geographies for us. We've made very good progress in the Philippines with 10 plants there now, 8 of which are MABR. We've made good progress building the first wastewater treatment plant of any kind in Cambodia and would anticipate more business from there. And we see a fair amount of activity in Vietnam and indeed, the prospect for further sales -- sorry, for sales in further geographies in Southeast Asia, where there are increasing water shortages because of climate change, but also ever-tighter restrictions on wastewater discharge. In many cases, wastewater there has been historically discharged straight into the ocean has -- is now being subject to pretty stringent treatment rules, for which the MABR technology is extremely well suited. I think there's a question here, too, about the water and wastewater treatment sector as a whole and catalysts that are pushing growth there. Wastewater and water treatment are very large markets, if you add everything together globally that grow relatively slowly, but there's a big shift happening in water and wastewater treatment, away from very large centralized plants toward decentralized, smaller local plants. The infrastructure is much cheaper, the plants can be deployed much more quickly, and therefore, you have kind of just-in-time infrastructure. And this is creating a lot of growth in those markets. Our challenge is going to the geographies where those markets have the fewest barriers to grow. For example, here in the U.S., we have 57,000 water utilities, most of which service fewer than 3,000 connections. And where there's really no strong market incentive to upgrade to more efficient technology. So we'll get -- we'll make progress in the U.S., but it's a modest investment for us because it's a slow-moving market. In China and Southeast Asia and, of course, water crises in the Middle East create a sense of urgency, which allows us to exploit the fact that we can deliver infrastructure, we believe, faster than other people. And that's what we believe wins us partnerships and the kind of volume orders that we have. Just checking...

Did you see a question on the backlog?

Yes, fire away, Francesco.

So there was a question about what else is in the $68 million backlog that is not Ivory Coast. Well $16 million, $17 million of the $68 million are related to SPS, about $2 million is ongoing contract on recurring revenue in relation to being in BOT and the balance are legacy ECS contract. What I want to highlight on the backlog is that the $17 million backlog for SPS is not an indication of any less future prospect or growth for this type of segment. As we said in the past, being a product-based business, SPS doesn't sit on our backlog like a large contract like Ivory Coast that will be and has been in our backlog for several years, the turnaround, the book-to-bill on SPS, indeed, as short as 3 months. So what we have in the backlog will show, if you want to say, less than 12 months revenue recognition cycle.

Great. Thanks, Francesco. And I see a couple more questions on the SPS announcements and updates to guidance. Yes, it's certainly our intention to revisit guidance and provide a narrowing of that range, which is, we understand, very broad at the start of the year here. And there's also a concern that we don't announce every SPS order we get. I can tell you that our partners in China, just having glanced at the orders that came in, in Q4, I think there were probably 20 or 30 orders from those partners, a varying size of some of them were for the treatment plants, some of them were competentes. The point is if we announced every single one, I think it will be far too many releases. So we would certainly intend on a quarterly basis to give an update of where we are and to potentially revisit at least at the half year mark, the guidance around the fairly broad range that we've given for the smart product. So I think that's about it for the questions. And I just would like to thank you all very much, indeed, for joining the call and encourage you to reach out to the company. For those whose questions we were not able to get to or for whatever reason we overlooked, we will get back to you by e-mail. I'm happy to discuss those also off-line. So thank you, again, very much, indeed, for joining. This concludes our call.

Thank you. That does conclude the conference for today. Thank you for participating. You may now disconnect.