Aqua Metals Inc (AQMS) 2018 Q2 法說會逐字稿

Thank you for standing by. This is the conference operator. Welcome to the Aqua Metals Second Quarter 2018 Corporate Update Call. (Operator Instructions) And the conference is being recorded. (Operator Instructions) I would now like to turn the conference over to Alison Ziegler, Managing Director of Darrow Associates. Please go ahead, madame.

Thank you, operator. Welcome to the Aqua Metals Second Quarter 2018 Conference Call. Earlier this afternoon, Aqua Metals released financial results for the quarter ended June 30, 2018. This release is available on the Investors section of the company's website at www.aquametals.com. Joining us for today's call from management is Steve Cotton, President; and Frank Knuettel, CFO.

During today's call, management will be making forward-looking statements. Please refer to the company's quarterly report on Form 10-Q filed today for a summary of the forward-looking statements and the risks, uncertainties and other factors that could cause actual results to differ materially from those forward-looking statements. Aqua Metals cautions investors not to place undue reliance on any forward-looking statements. The company does not undertake and specifically disclaims any obligation to update or revise such statements to reflect new circumstances or unanticipated events as they occur except as required by law.

And with that, I would like to turn the call over to Steve Cotton, President of Aqua Metals. Steve, go ahead.

Thanks, Alison. Good afternoon, and welcome. Before I provide an update on the progress we have made in the second quarter, I would just like to say how pleased I am to be back at Aqua Metals as we move beyond proof of concept and transition into full-scale commercialization.

As many of you know, before my departure in June of 2017, I spent 2.5 years as Aqua Metals' Chief Commercial Officer. I returned because I truly believe we have a revolutionary and a greener way to recycle lead and are positioned to impact not only shareholder value but the entire lead value chain. My previous experience with the company gave me significant institutional knowledge and allowed me to hit the ground running.

I'm also appreciative to have the support of the board, management, our partners and many of our shareholders. Over the past 12 weeks, our strengthened management team and board conducted a thorough assessment of the business. Together, we have revised our strategic vision on how to move ahead, increased our focus on reducing costs and have strengthened our strategic partnerships.

Upon returning, my main goal was to get our AquaRefinery running. We've made progress towards that goal in the past 12 weeks. We are currently staffed and have the shifts in place to operate 24 by 7. However, module run time is significantly less than that, including running between 1 and 4 modules at a time. We continue to experience stops and starts of concentrate production and module run time, and we have not yet achieved steady-state operation.

Despite these challenges, we were able to produce and ship initial truckloads of AquaRefined lead for the first time. Based on our assessment of the plant and the entire process, we have made the strategic decision to run fewer than 4 modules for this next phase of operations. This is important for a number of reasons: First, running a limited number of modules furthers our goal of modules running in a steady state, which is critical to scaling up; Second, it gives us the flexibility to continually incorporate our learnings and modify the modules to improve performance; Third and most importantly, it allows us the time we need to implement capital projects that will improve the economics of the plant as a whole. A key driver of the number of modules we will run through Q3 and likely into Q4 will be based on planned upgrades to pre-AquaRefining digestion and the concentrate production equipment that feeds the modules, which Frank will address in more detail shortly.

From our experience during Q2 and our resulting design improvements, we believe these upgrades will allow us to eventually run all the modules in steady state while also achieving improved contribution margin. We still have a considerable amount of work to do to get there, but we think this next step is in sight.

Total operating time and production by way of AquaRefined lead will likely remain flat or even decline for the time being as a result. However, it is critical to the success of the company and to shareholder value that we ensure our process approaches steady state with improved contribution margins before we continue to scale production.

Having said that, we have been shipping regular truckloads of pure AquaRefined lead to Johnson Controls since late June and expect to continue shipments on a consistent basis moving forward. Speaking of Johnson Controls, I am pleased to tell you that we have reinforced our relationship. Since June, we have been making and regularly shipping AquaRefined lead that exceeds their specs, and we are making progress towards formal vendor approval.

We have also increased dialogue with their technical team and have instituted more open and regular communications with structured milestone tracking in many areas. And as previously announced, we have extended the time line to April of 2019 for the conclusion of a development agreement and are moving forward with those discussions.

We also have positive developments to report regarding our relationship with Interstate Batteries. We successfully negotiated over $2.5 million in savings by negotiating the waiver of a key-man clause in a previously reported breach of contract claim that resulted from our acquisition of Ebonex.

In addition, Interstate has agreed to reduce the cost of batteries by roughly 10% and loosened our payment terms, which will assist us with additional working capital as we scale. In exchange, we extended and repriced the Interstate warrants. We believe our relationship with Interstate as a key feedstock supplier with continued long-term partnering opportunities remains on solid footing today.

Today, our AquaRefining technology is able to process up to 50% of the lead in each battery into soft high-purity lead now exceeding 99.99-plus percent, which is actually above the requirements of our partners. However, we sell the remainder at a discount to LME pricing. We intend to improve the quality of our product mix through plant improvements and other CapEx projects, which we believe will continue to improve the prices we get on our current product mix as well as our contribution margin.

Finally, I'd like to talk about our overall strategy. After surveying our business and the industry landscape, we have made the decision to adjust our business approach. Historically, Aqua Metals has discussed building its own plants. Moving forward, as we have learned more about the process and where it fits into the lead recycling continuum, we have become convinced that a capital-light co-location model that partners AquaRefining with existing battery recycling centers is the best plan for the future as we expand beyond our proof-of-concept plan.

By installing AquaRefining technologies and services in existing battery recycling locations, initially with Johnson Controls, we have the potential to target 50% of the $22 billion market by focusing on recycling the lead paste in a greener manner that also yields higher-quality metal and could open up further production capacity. This is basically consistent to our strategy with JCI to co-locate AquaRefining technologies with existing battery recycling centers. What this means is that, in the short term, our revenue will be based on selling lead products, and over time, we will look to add higher-margin coprocessing and licensing fees and services to our revenue mix. We feel the capital-light model would provide more favorable margins compared to traditional stand-alone plants, and our experience to date has proven this out further.

With that, let me turn it over to Frank, who will review our financial results.

Thank you, Steve. In the 3 months ended June 30, 2018, we recognized revenues of $0.5 million compared to $1.7 million during the first quarter of 2018 and $0.6 million of revenue in the second quarter of 2017.

The second quarter of 2018 marks the transition to the regular production of AquaRefined lead. Prior to this shift, including during the 3 months ended March 31, 2018, we ran the balance of the plant at a high level to pressure test the non-AquaRefining infrastructure and sold constituent components of lead acid batteries with little or no additional processing.

For the 3 months ended June 30, 2018, we had an operating loss of $9.2 million compared to an operating loss of $8.0 million for the 3 months ended June 30, 2017. Included in our expenses for the second quarter of 2018 were costs associated with the proxy contest, resignation of Steve Clarke, amendments to the Interstate Battery agreement and the expansion of the AquaRefining process.

Specifically for the proxy contest, we incurred expenses in the approximate amount of $0.8 million, and for the Clarke resignation, we incurred expenses in the approximate amount of $0.9 million. As part of the amendments to the Interstate Battery agreement, we repriced and extended the exercise term of 1 of their warrants to purchase 702,247 shares of our common stock relative to which we took a charge in the approximate amount of $1.0 million, which was reduced by the reversal of $0.6 million charge taken in the third quarter of 2017 through the alleged breach of Interstate Battery agreement following the purchase of Ebonex.

Pursuant to the amendment, Interstate Battery permanently waives any claim with respect to the Ebonex purchase. With respect to the increased AquaRefining process expenses, we had to add electrolytes to the system as we moved to a continuous digestion process and had to maintain the level of electrolyte in the system, which was expenses incurred.

In addition to the nonrecurrence of the above-referenced onetime items, we're reviewing operations and overhead with an eye to reducing our costs. We recently made the decision to close our Alameda office, which served as our launching pad and relocate the office and assembly space to an office near our plant at approximately 1/5 of the cost, though we will be responsible for the Alameda lease payment until we find a sublessor. We continue to review other aspects of our business to further reduce our expenses where possible and expect to focus our capital expenditures closely with the goal of driving better margins.

Net loss for the second quarter of 2018 was $9.9 million or $0.33 per diluted share compared to a net loss of $8.4 million or $0.42 per diluted share in the second quarter of 2017. Following the capital raise closed in June, in which most members of the board and management team participated, we had approximately $36.8 million in cash and cash equivalents as of June 30, 2018, up from approximately $22.8 million at the end of the year 2017. Net of issuance costs, we raised approximately $26.6 million in financing.

For the 6 months ended June 30, 2018, our capital expenditures were approximately $2.4 million as compared to approximately $5.6 million in capital expenditures for the corresponding period in 2017. For the remainder of the year and in early 2019, we have some critical capital projects that address the recycling of the electrolyte in the AquaRefining system. For the second half of 2018, these projects are expected to cost approximately $2.5 million with overall capital expenditures for the second half of 2018 currently projected to be in the range of $4 million to $5 million.

On a final note, we continue to make good progress for the prosecution of our patent portfolio, and as of today, we have 9 issued patents in 9 different jurisdictions and have approximately 100 patent applications pending in 20 jurisdictions. Of these applications, we have received a number of allowances, including from the European Patent Office.

With that, I'll turn it back to Steve for a couple of final comments.

Thanks, Frank. Before we open up the call to your questions, I just want to reiterate the significant progress our team has made in the last few months. We believe that the risk is no longer a question of will it work, but rather one of execution.

Aqua Metals is truly at a key inflection point. While we all know there will continue to be challenges in scaling up a first-of-its-kind facility, we believe that our core technology is fundamentally proven. Further, over the last few months, we have fortified the management team and the board to support our ability to execute, and AquaRefining is in early stages of commercial production. Partnerships are being strengthened, and new partnership potential is growing against the backdrop of corporate and government support for green technology. We also have capital projects, as Frank summarized previously, that will allow us to pursue margin enhancement and further position us to scale production.

I also want to take a minute the comment on the overall lead market. Despite the advent of newer battery technologies, lead remains the dominant technology, and the lead market continues to grow in both size and complexity. Some examples include the advent of advanced lead batteries or Absorbed Glass Mat start-stop batteries, which does put a second lead acid battery into each car. Other applications like stationary batteries, such as the growing Internet data center infrastructure and alternative energy in grid-scale energy storage source. These trends increase the market value of pure AquaRefined lead that we believe we can capture.

Our immediate priority is increasing the uptime of our modules. Other key targeted milestones include deploying CapEx projects to improve the economics, synchronizing the plant to increase utilization rates and limit downtime, learning more from 24 by 7 steady state, working on achieving a positive contribution margin in order to scale to 16 modules and working on new strategic partnerships that will help us shift to a capital-light model over time.

Thank you for your continued interest in Aqua Metals, and we are now ready to take questions.

(Operator Instructions) Our first question comes from Colin Rusch with Oppenheimer.

As you guys are pursuing this capital-light strategy, what do you think you really need from a partnership perspective and a resource perspective to execute on that vision?

Colin, thanks for the question. Yes, in pursuit of the capital-light strategy, that really puts us in a position where we can find the right execution partners that will be able to help us achieve the optimization of the plant at a greater level and focus on the plant operations while we, as Aqua Metals, focus on the technology development and evolution of the technology and delivering new capabilities associated with AquaRefining. So we believe that reaching out and finding partnerships on that execution side is just as important as the partnerships we've already established on the feedstock and offtake side with the likes of Interstate Batteries and Johnson Controls. So it's of our belief that, that's going to be very beneficial for our evolution as we move forward towards that strategy.

Okay. And then as we think about positive incremental gross margins and operating margins from capacity growth or actually just ramping up the facility at TRIC, how should we think about that from a timing perspective and then a growth perspective in terms of how those margins could expand over the next, let's just call it, 12 to 18 months?

Yes. So I'll comment on that and add -- ask Frank to add any additional comments. But I would say that the main objective that we have at this point in time is to improve the contribution margin with some of these capital upgrades. And that has to do with recycling, reusing the electrolytes that we're making the AquaRefined lead with and other projects that are going to allow us to close the loop throughout the system and ensure that, that contribution margin is where it needs to be before we scale further because you don't want to be in a position of manufacturing losses. You want to be in a position of learning what you're doing and then scale once you've achieved that proper contribution margin. I'll let Frank add to that if he'd like to.

Yes. So from my -- as I've mentioned in my prepared comments, we have a number of projects scheduled for later this year and into '19 that will address the recapture and recycling of the concentrate we use in the AquaRefining process. And those are the 2 largest CapEx items associated with optimizing the margins and both contribution and gross margins. There are a couple of other projects as well that we're rolling out in the coming 6 months that will have a less meaningful but nonetheless a positive impact on both margins and anticipate that all told will reach that point in early to early-ish 2019 sometime.

Okay. And so my understanding that those projects are very well defined, that there isn't any technology risk. It's really just a matter of integrating the equipment and then operating it and just optimizing the balance of the system. Is that the way we should be thinking about this?

Yes. It really is because we're not really inventing anything dramatically new in that front. It's more planned capital upgrades that allow us to scale that got delayed until we could learn further more about what we needed on the specs of the machine and things like that, but they're standard off-the-shelf types of equipment. So it's just a matter of execution and deploying them and getting them into service in our belief.

Our next question is from Sameer Joshi with H.C. Wainwright.

So my first question relates to just the quantification of your contribution margins with the gross margins. Of the $4.6 million cost of product sales this quarter, what was the overhead? And what were the variable costs? And part 2 of that question is did this also include any of the improvements that you may have made to the systems to optimize production.

So answering your second question first, it did not include any of the improvements we've discussed with respect to capital expenditures and projects in the plant to improve the contribution in gross margins. So all that -- what we expect on those margins -- that margin improvement from the capital ex can be all in future quarters. With respect to the breakdown, we haven't really disclosed that, but I will give you some insight into our ramp-up process. And a considerable portion of the cost of goods at the moment is indeed plant management, plant personnel and floor personnel. So we have been increasing our employment on the floor as part of the process to increase our run time and the time at which the plant is staffed. And all those people require some level of training as well. So we ramped up considerably the personnel in the plant, which are expensed as incurred on -- in preparation for expanding the scope of the duration of time we man and operate the plant.

Oh, okay. So -- and you have said that you're working on improving these margins. What is the break-even revenue per quarter that you would breakeven at the gross level?

So we anticipate that we will have positive gross margins prior to getting 16 modules running continuously, so somewhere in the 12 to 13 module range of continuous operation is where we'll hit positive gross margins.

Actually, that's a good segue into my next question, which is the -- once you have optimized then the -- optimized the plant for 4 or less modules, what is your expected rollout or bringing deployment of the rest of the 16 modules, the time line?

So basically -- yes, of course. The modules are all in place and have largely been retrofitted for improvements that we have already determined need to be made. As we run continuously the first couple modules, we may learn additional items that would warrant upgrading the other 12 modules. With that said, barring major changes, the ramp-up will be relatively quick because they are already in place and largely already upgraded for prior items that have been addressed.

Okay, okay. Just one last one on the Interstate Battery renegotiation. Was it only necessitate because of the key-man clause? Or were there other operational issues that needed to be addressed?

Yes. This is Steve. I'll take that. Good question. The Interstate relationship, really what we've agreed on a moving forward basis, is multidimensional. It's not only the key-man element of it, but it's also inclusive of the reduction in cost for Aqua Metals for the feedstock, which is probably one of the largest, if not, the largest driver of our contribution margin. And it's also inclusive of further commitments that the 2 companies have made to each other to move forward on a very positive form, inclusive of their waiving of the Ebonex issue. So we feel very good about the relationship with Interstate on a moving forward basis and are very excited to be moving forward with them.

Okay. And that's a done deal, right? It's signed and everything.

Yes, it's a done deal.

Our next question is from Ilya Grozovsky with National Securities.

Steve, it's Ilya. So I had a couple of questions. Wanted to -- what is the longest a single module has run for you guys before being turned off?

Yes. So we've run a module for 24 hours. We are also in 24-hour staffing of running multiple modules that just shifted from 24 hours by 4 days a week to 24 hours by 7 days a week, which the 7 days a week -- 24 by 7 did commence this week. In terms of the actual run time of the modules, the number of hours within those 24 hours, our utilization is going up on a general trend upwards, but we're not, to date, in a steady state with those modules. That's our next step in the process, is to run, if we need to, fewer modules because of the upgrades with the capital equipment to make the concentrate in order to run the modules. That will allow us to focus on steady state of 1 to 2 and then plus modules from there as we move through the process. And we believe that, that additional experience is going to lead to further improvements that we'll make while we wait for the capital expenditure improvements to be complete. So we get the right contribution margin. So those 2 gates are what we'll use in order to trigger the scaling of the plant.

Okay. So what would be the downside of actually running more modules now? It sounds like you're pretty close that if you wanted to, you could probably run multiples of what you're doing now and kind of do put in various optimization and improvement kind of -- companies are always improving their process. But why not start -- what's the downside of starting and kind of getting them all up and running if it sounds like it's kind of a choice rather than an issue with any of the modules or the process?

Yes. It's definitely by choice versus really limitation. And it's -- the downside, I would best define as manufacturing losses. And right now when it costs us negative contribution margin to go through our experiential learning process, and these other upgrades that we're making based on that process, all we're proving is that we're spending capital on manufacturing losses. And we'd rather preserve our precious cash and capital to ensure that we spend that on the right more durable types of initiatives like the CapEx improvements and partnerships and things along those lines. So it's really -- is more of a matter of choice than it is a matter of capability. In the past, we have already learned that we can run the plant flat out. That's why you see higher revenue numbers from prior quarters in the prior years. Don't measure us by our revenue today. Measure us by our milestones. And the [lower] right now, the reality is the lower the revenue is, the less our losses will be reported in the following quarter until we connect everything else up in the system to justify the scaling. Hopefully that answers your question.

Okay. And then my last question is you guys have said in the past that you expect all 16 modules to be up and running by the end of this year. Let's assume end of fourth quarter. Is that still the target?

We're in a position where we are not speaking to specific dates for when we're going to have a certain level of the modules running and revenue milestones, et cetera. And it's more of a process. It is a first-of-its-kind technology. And again, it's out of the proof-of-concept phase, and it's in the execution phase. But still I could try to predict dates and times that we're going to be at certain levels of production, and I can almost guarantee you I'd be wrong. And so what I don't want to do is put information out there that may be incorrect later on both on the positive or the negative side. So we're just progressing through our milestones at this stage of the development of the company and -- although I will qualify that as well that we do anticipate that we should be in a position to begin scaling somewhere between now and the end of the year further.

Our next question is from Bhakti Pavani with Alliance Global Partners.

Just wanted to build up on Ilya's question. When it comes to running or scaling all 16 modules, as you said, the downside is that it would create more negative contribution margin. Just wanted to quantify or understand in terms of quantification what would be the percentage cost of running all the 16 modules if you had to today in your overall costs.

Yes. So for AquaRefining process, particularly, the cost of the direct inputs less the revenue is positive, i.e. our feedstock costs and our -- exceed the revenue we got at the moment based on the electrolyte management and other items. And the range of that is probably at -- is 115% to 120% to [1], i.e. at $1.15 to $1.20 in feedstock costs right now for every $1 of revenue in AquaRefining.

Got it. Perfect. Also in terms -- talking about the capital project improvements that you are doing at the plant, just wanted to understand, are those improvements dependent upon -- one upon another? Or do you guys have a flexibility of doing or implementing those project improvements all at once?

So they are not -- most, if not, all of them are not dependent on each other and are being put in place in parallel. There are different lead times associated with sourcing the equipment and spec-ing the equipment. So it won't all come in together, but it is being done largely independently.

So when it comes to time line, at this point, what is the time line that you guys are projecting internally when all those capital improvement projects would be complete?

So it's a continuum, if you will, with the first couple of steps of that occurring in the next couple of months and the completion of all of those steps or projects over a span of time into 2019 at some point.

Yes. To add some color to that, Bhakti, these things are different elements to the process throughout the plant that, again, allow us to synchronize and connect together and make some batch processes more continuous. So we had more reliable feedstock of our electrolyte for the AquaRefining equipment as well as other projects that will help improve contribution margin by recycling and recapturing that electrolyte and therefore, lowering our conversion costs to where the targets are for that. So they're not totally interdependent upon each other, and they are on slightly different time lines just because one piece of equipment gets on the floor today and another piece of equipment is on order and then the commissioning associated with each of those things tie everything together.

Okay. That's great color. Just one last question. With regards to improvement in contribution margin, once you have all these capital improvement projects completed and you have -- and I'm assuming that you are going to test this improvement over the full modules for the extended period, just wondering, do you anticipate an improvement in contribution margins further once you have all 16 modules in operation?

We don't see that there's a strong relationship between the number of modules and the contribution margin in that the contribution margin is specifically predicated on the feedstock costs. We will certainly be testing the plant improvements on some number of modules over a period of time to ensure that everything is efficiently operational before we roll out the remaining modules. But because the contribution margin is specifically related to the feedstock cost, we don't anticipate much, if any, change in the contribution margin between 1, 2 or 16 modules.

This concludes time allocated for today's conference. I would like to turn the conference back over to Steve Cotton for any closing remarks.

All right. Thank you. I appreciate everybody joining the call today and hearing the updates. As the new management team and the new board composition at Aqua Metals, we're very excited about the future. We see great opportunity to continuing forward with the company, and we appreciate everybody's support and patience as we move from proof of concept into more of an execution phase of the business. There will be ups, and there will be downs. And we will succeed in getting AquaRefining to the scale that we believe we can with the support of the team here on the plant as well as some potential partners and our existing partners that we already have in place, which have been fantastic as we've progressed forward. So thanks again, everybody, for their participation and confidence in the team. And we're here to serve the shareholders and build this enterprise value. Thank you.

This concludes today's conference call, you may disconnect your lines. Thank you for participating, and have a pleasant day.