Energy Focus Inc (EFOI) 2011 Q3 法說會逐字稿

Good day everyone and welcome to the Energy Focus third quarter earnings release conference call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Brian Tanous with CleanTech Investor Relations. Please go ahead, sir.

Thank you, operator.

I would like to welcome everybody to Energy Focus' fiscal 2011 third quarter earnings conference call. On this call, the Company's Chief Executive Officer, Joe Kaveski, will give a business update on the Company's solutions, products, and military businesses as well as provide an outlook for the fourth quarter. The Company's Chief Financial Officer, Mark Plush, will then address the Company's third quarter results in detail. We also have President John Davenport on the call with us this afternoon. Following prepared remarks, we will open it up for questions for the remainder of this call.

Before we get started, I'm going to read a disclaimer about forward-looking statements. This conference may contain, in addition to historical information, forward-looking statements within the meanings and federal securities laws regarding Energy Focus. Forward-looking statements include statements about plans, objectives, goals, strategies, future events and performance and underlying assumptions and other statements that are different than historical facts. These forward-looking statements are based on current management expectations and are subject to risks and uncertainties that may result in expectations not being realized and may cause actual outcomes to differ materially from expectations reflected in these forward-looking statements.

Potential risks and uncertainties include change in demand for the Company's products, the impact of competition and government regulations, and other risks and -- contained in the statements filed from time to time with the SEC. All such forward-looking statements, whether written or oral made on behalf of the Company, are expressly qualified by these cautionary statements. And such forward-looking statements are subject to risks and uncertainty and we caution you not to place undue reliance on these. With that, I would like to turn the call over to Mr. Joe Kaveski. Joe?

Thank you, Brian, and welcome to everyone on the phone today and over the Internet for participating in Energy Focus' third quarter 2011 earnings call. So, to begin with a quick snapshot of our third quarter results. As per our guidance, our overall third quarter sales were $6 million. Overall gross profit margins were slightly over 20% which was consistent with our third quarter of last year and up sequentially over our second quarter of this year. Our continuing emphasis on reducing non-value-added costs resulted in our third quarter overhead expenses being reduced 25% compared to the third quarter of last year and almost 22% for the first nine months on a year-over-year basis. And from a cash perspective, our cash burn decreased sequentially from our second quarter and our cash balance increased $900,000 for the quarter.

Now, since our last call, many of our investors have asked for further discussion on the Company's strategy, technology, Navy contract, and our Solutions business. So, with in this mind, I would like to take a few minutes to discuss these items. Later today, the Company will post a slide presentation on the Company's website that will provide more detail on these items.

I would now like to talk about the Company's game-changing technology. The Company is keenly focused on helping the US Navy and existing building owners lower their energy and operating costs. Recognizing that approximately 75% of their lighting is linear fluorescent lamps, the Company has pursued creating IntelliTube, which is an LED plug and play replacement lamp that will offer unsurpassed economic payback through greater energy efficiency and superior optical performance. What makes IntelliTube so special is a proprietary optical design which was developed out of $30 million in US Government R&D funding and intelligent electronics which enable commercial energy management strategies that have been historically too costly to implement.

Our studies indicate that IntelliTube technology for the military is and will soon be for the commercial markets the absolute highest performance and lowest cost LED Solution for replacing linear fluorescent lamps. To accomplish this for the commercial markets, IntelliTube uses a single high-powered LED coupled to a special optical rod instead of using hundreds of low-powered LEDs mounted on a printed circuit board. One of the significant benefits of this design is that the optical rod becomes an extension of the high-powered LED's dome and can actually extract more light out of the LED. This allows IntelliTube to produce more light with less energy consumed.

In August of this year, the US Department of Energy published a LED lamp manufacturing cost report that indicated discrete LEDs represent about 60% of the cost of a solid state lamp and that 40% of an LED's cost is its packaging. Because IntelliTube uses only one LED and a relatively low cost acrylic rod, its manufacturing costs will be significantly below the cost of manufacturing a product that uses hundreds of LEDs.

Intellitube also contains sophisticated electronics which allows it to sense and act upon its environment. For instance, in the Navy applications, upon installing Intellitube into a Navy fixture, Intellitube immediately determines what type of electrical circuit is powering the fixture and then actively reconfigures its electronics to flawlessly deliver more light at less than one-half the power of the previously installed linear fluorescent lamps. For commercial applications, we're adding the capability to IntelliTube to communicate via wireless mesh network to seamlessly integrate into a building's energy management system, or even a utility smart grid.

This smart mesh networking capability will allow building owners to cost-effectively implement higher levels of energy management strategies like personal control, dimming, daylight harvesting, demand response, and smart grid applications. In essence, by simply changing the fluorescent lamp to Intellitube, building owners will be able to eliminate much of the installation cost of lighting controls which has been a historical barrier to implementing lighting control strategies.

Now, the Company's strategy has been to utilize government funding as well as the US Navy market to pay for the development of IntelliTube and to create a sales bridge into the broader commercial retrofit markets. Since our August earnings call, the Company has received contracts for approximately $7.5 million in new turnkey lighting retrofits to be performed in schools, universities, military bases, factories, government and private office buildings. We expect to receive more Solutions contracts as our fourth quarter progresses.

Furthermore, the Company recently won a $23 million contract with the Navy for the first phase of replacing lighting in the Navy fleet with IntelliTube. This contract includes a sizable billing this quarter for the delivery of our first IntelliTubes. We are confident that this $23 million contract, which is for approximately 7% of the US [fighting] fleet, will also lead to additional purchase orders to retrofit the lighting in the remainder of the fleet.

As an update to our being able to fulfill this Navy contract, the Company made progress in our third quarter. Today, I'm happy to report that our product development team has already finalized the in-house design, engineering, and testing of the military IntelliTube and assembled pre-production runs of IntelliTube which have been sent to test labs for the Navy's rigorous First Article Testing, or FAT. As of last Friday, IntelliTube has already passed the most difficult FAT test. At this point, we're confident that IntelliTube will complete and pass the remaining FAT test before the end of November and begin shipments to the Navy in December of this year.

Now, this process with the Navy has been time-consuming and rigorous, but the results are clear. The US Navy has validated Energy Focus' retrofit approach and game-changing technology. We look forward to introducing IntelliTube into the broader commercial markets in the second half of 2012 and to realizing the positive impact that IntelliTube will have on our products and Solutions business.

So, in conclusion, as we look to our fourth quarter and beyond, the Company continues to see improvement in its financial results. We believe that our fourth quarter will be our best quarter of the year with momentum building in our Solutions and Navy businesses. We expect our gross margins will continue to improve and our operating expenses will continue to fall. So, now, I would like to turn the call over to Mark Plush, our Chief Financial Officer, for further details on our third quarter results. Mark?

Thank you, Joe. Good afternoon everyone. Net sales of $6 million for the third quarter of 2011decreased $3 million compared with the prior year's second quarter sales of $9 million. The decline in sales was due primarily to lower sales from our Solutions business.

Gross margins decreased $647,000 on $3 million lower sales. Gross margins, as a percentage of net sales, were 20% of sales as compared to 20.6% of net sales for the third quarter of 2010. Gross margins declined primarily as the result of lower sales. Additionally, excess obsolete inventory reserves increased $171,000, for a 2.8 percentage point unfavorable impact on gross margins for the quarter.

Operating expenses for the second quarter of 2011 were $2.5 million compared to the prior year's $3.3 million, a 25% decrease. Cost decreased across all functional areas. Third quarter loss before taxes was $1.5 million compared to a loss before taxes of $1.6 million in the prior year's third quarter. This reflects an improvement of $100,000 even though sales decreased $3 million. The improvement was due to lower operating costs which were partially offset by lower gross margins on the lower sales.

For the nine months ending September 30, 2011, net sales were $19.7 million, compared to $26.4 million for the same period last year. The decrease in sales was primarily the result of lower sales from our Solutions business. The Products business was essentially flat year-over-year.

Gross margins decreased $903,000 on $6.7 million lower sales. Gross margins as a percentage of net sales for the nine months ended September 30, 2011, were 19.9% compared to 18.3% from the prior year's comparable period, a 1.6 percentage point improvement. The improvement in gross margins as a percentage of net sales was the result of higher margins in our Products business as a result of cost reduction actions. Operating expenses for the nine months ended September 30, 2011, were $8.8 million compared to the prior year's comparable period of $11.3 million, a decrease of $2.5 million or 22%. The reduction was primarily due to lower G&A expenses and lower equity revaluation expense.

Loss before taxes for the nine months ended September 30, 2011, was $5.4 million compared to $6.9 million for last year's comparable period, a $1.5 million improvement even though sales decreased $6.7 million. The improvement was a result of $2.5 million of lower operating costs, partially offset by lower gross margins as a result of lower sales. Cash at September 30, 2011, was $1.9 million versus $1 million at June 30, 2011, a $900,000 increase.

In terms of the NASDAQ listing, we have not traded at $1 per share for 10 consecutive trading days prior to today to cure that deficiency. Additional, total shareholders' equity balance is $2 million at September 30, 2011, which is below NASDAQ's minimum listing requirement of $2.5 million. The Company is in the process of considering its options to remedy both deficiencies and will await a deficiency letter from NASDAQ before deciding whether it will request a hearing. With that, now I will turn the call back over to Joe.

Thank you very much, Mark. Operator, at this time, I would like to you open up the lines for any questions from participants.

Thank you sir. (Operator Instructions) We will pause for a few moments to assemble our roster. Thomas Murphy with Digitas.

I was wondering if you could elaborate a little bit on the -- both the financing arrangements that you mentioned in the earnings release, and then also briefly just now? And then also the delisting process, like what are - what's the best outcome, in your mind, that we feel like we can achieve right now? I feel like the explanation was a little short.

Okay. Let me address the capital raise. The capital raise, we're in the process of finalizing the agreement, and we're not permitted to disclose details until it's executed. However, it will collateralize certain assets of the Company. We expect that the facility will provide additional working capital as well as refinance a portion of our existing debt.

In terms of the NASDAQ issue, once we receive a Delisting Notice from NASDAQ, we have seven days in which to request a hearing. And as I mentioned in my comments, we will go through what we can do to cure the deficiencies and we can request a hearing. If we do not request a hearing, then after the seven days, plus two additional days, we could possibly be delisted. But, again, as I mentioned in my remarks, it's a complicated issue, and we don't know.

Now, having said that, we do feel confident that if we were delisted, we could trade over the Counter Bulletin Board, and we know that we have a Market Maker who would request that. So, we're not concerned about the liquidity of the stock.

Okay, thank you.

And, currently, there are no further questions in queue. (Operator Instructions) We will pause for a few moments to give everyone a chance to signal.

Theodore Brown.

Hello, Joe. Ted Brown here. How are you? Would you give us a little more idea of what the contemplated financing is going to mean to the existing shareholders? Also --

Sure.

Also, Joe, I would like you to comment on that incredible bulge of stock activity that occurred a couple months ago, the 4 million shares plus, one day, 1.8 million shares, the next day. Something unusual was happening, and I hope that you can comment on it.

Sure. Well, I'll take the second question first, and then I will turn it over to Mark for your first question. But, Ted, the sequence of events there was that we had a congressman who basically presented in press release that we had been awarded the $23 million IntelliTube contract by the US Navy. Subsequent to - that, was before the Company was even officially notified. Subsequent to that, we saw a huge surge in volume in the trading of our stock.

And that was the next day, if I recall correctly. And, then it returned more towards its normal levels. Having said that, the Company really does not have any transparency into who actually bought or sold that stock that was out there. I wish I did. We just don't have any information relative to beyond our speculation that it was the announcement of the Navy contract that caused the surge in the trading of the stock. So, with that, then I'll turn it over to Mark to try to answer your first question.

Sure, in terms of the financing, it's a credit to that facility. So, it will be done.

Okay. So, it won't materially check the number of shares as it is today, and the percentages of holdings, et cetera?

That's correct, it is not an equity arrangement. It is debt.

Okay. Now, in general, let me just say that I'm very much impressed with your wonderful products and the things that you have accomplished. But I just keep feeling that somehow the traction isn't getting there. The -- what we would expect from having remarkable products is not generating that much in sales. Can you tell us why?

Well Ted, I think that, that is going to change here as we move into actually shipping the Navy product itself. And you take that and you couple that with the fact that, again, we are seeing the rebound in our Solutions business. We had a very slow first quarter as we mentioned, because we had some very large contracts that basically anticipated some delays in our first quarter, and like shifted out a quarter. But, we are seeing a pick-up in our Solutions business. We've done a lot to put emphasis on that business. Our new sales people are beginning to produce.

They -- we're seeing an increase in the number of customers that now SRC is actually serving. We're seeing an increase in the number of sales proposals and therefore, the sales project pipeline. There's definitely improvement in the integrity of our forecasting of that business. And so I'm very, very optimistic that as we finish our fourth quarter and move into 2012, that you will see that situation remedy and you will begin to see that we're getting that traction you're looking for as well as ourselves.

Could you tell me a little bit about what does it mean that your Solutions business -- what are you particularly -- what do you do there in Solutions business?

Great question, Ted.

Transactions?

Yes, we use the word Solutions synonymous with Stones River Companies. This is a subsidiary of Energy Focus, wholly owned, that serves, really, 2 types of clients. One of them is Fortune 500 type of clients in the private sector as well as a heavy emphasis on the public sector which is municipalities, school, universities, public hospitals, military bases, and state and local and federal government office buildings.

Stones River Companies actually is a premier design and lighting retrofit Company, and what that implies then, is that, that core business is going into existing buildings, inventorying their existing lighting systems, and proposing - quantifying what it costs for those systems, current systems to -- what they consume in energy and operating costs. And then in designing an improved lighting system with a new financial performer relative to energy and operating costs that a customer then can make a financial decision on whether he wants to move forward because of a great ROI and in which case, we actually are responsible for the turnkey installation of that new lighting system and those new products that go into these existing buildings.

What's really significant to this business is the fact that today and historically, we have up -- for $1 dollar in revenue in Stones River Companies, about $0.40 on that $1 is related to product cost or material. And $0.80 -- or 80% of that $0.40, if you will, is really 2 SKUs, and that's standard T8 fluorescent lamps and ballasts. As we -- and so the significance here is that as we bring IntelliTube for the commercial markets online in 2012, we will stop buying fluorescent lamps and ballasts from our -- the big major manufacturers like Philips and GE and Sylvania. And we'll begin to more and more source our own LED IntelliTube in these lighting retrofits.

And, so we will have a significant impact on IntelliTubes volume on a go-forward basis and we will be able to keep that manufacturing margin for those products that currently we're giving to our competitors we'll keep ourselves. So, again, this is a business that in terms of helping us launch and transform the industry to IntelliTube plays a very vital role and we should see a very nice impact relative to our volumes and margins as we release IntelliTube in 2012, latter part of 2012.

So, it may be, Joe, that we've seen the worst, I hope? Is that a 50% chance that we have already seen the worst?

Well, I'm optimistic that you are correct, and all indicators are that you're correct. One of the impediments, if you will, to bringing IntelliTube to the commercial markets sooner is just the mere price of the LED chips themselves. Over the last 9 months, we have seen a marked increase in their performance and a radical decrease in their price to the tune about 30% and all indications are is that, that trend will continue. And, so, with that in mind, that gives me great sense of optimism as we move forward.

Joe, just one more comment. I heard something about China mandating the use of LED lighting virtually in the entire country. Is there something out there like that?

Yes, it's actually to replace the incandescent lamp, and basically, if you consider that China builds about 3 billion incandescent lamps a year, of which one billion of them are consumed within China currently today, that means 2 billion is going to western Europe and the rest of the world and the United States. And I only see this as a great thing for Energy Focus and our industry, because it will help to basically escalate the reduction in the LED cost themselves, the LED chips themselves as their performance goes up and of course, demand for those chips goes up. So, it's a really, really good -- we view that as a really, really good thing for Energy Focus and our customers.

And you're in a position to benefit in some way, do you think?

Absolutely. We'll - again, it will fundamentally increase the demand for LED chips which will ultimately reduce their price, I think, faster than anybody else. And that will help us bring IntelliTube to market quicker. So, that's all a very good thing.

Good. Thank you very much, Joe.

Thank you, Ted. Appreciate your support.

Joseph Guilmette.

Hi, Joe. Thanks for taking my call. I've got a couple of questions about the Navy contracts. I was wondering when the last delivery is going to be scheduled, and also, where the manufacturing is going to take place?

Sure. Well, the Navy contract, the $23 million contract is a four-year contract. So, four years from now, that would be the last delivery under that contract order. Again, this is a contract that the Navy has clarified as a seed contract that will help stimulate spending from other departments and more contracts in parallel with this one for conversion of the fleet to LED. So, although the $23 million contract may technically expire in four years, we believe there will be other contracts in addition to that.

I may mention to you, Joe, that this particular contract is -- and this whole conversion of the fleet to LED lighting is part of the, quote, Green Fleet Initiative, unquote, as well as part of their Task Force Energy initiative, which has been described to us by the Navy as some of the highest priority projects that they have.

Having said that, we know that every ship is refitted every five years, and so, therefore, we're optimistic that, again, outside of the $23 million contract, we will receive many more additional contracts, such that we can see that total renovation of the fleet, which is about -- we estimate to be just in the fighting fleet alone, about a $300 million opportunity to occur in a less than five-year window.

Okay. And where is the manufacturing taking place? Is it the US?

This is manufactured in the United States. So, we will be manufacturing here within the Solon facility, at least the initial runs of IntelliTube. And, then based upon demand, we will evaluate our options there in terms of bringing on second and third shifts here in Solon or finding another manufacturing facility within the US so that we can comply with the US manufacturing criteria.

Well, it sounds like you're going to be busy. But I have one more question about the 48-inch IntelliTube, the commercial version you were referring to. That will be introduced to the marketplace in 2012. Is it the beginning of 2012?

You will see that in the second half of 2012, yes.

Second half. Okay, I guess that answers my questions. I thank you very much.

Thank you very much, Joe. Appreciate your support.

(Operator Instructions) We will pause for just a few moments. Steve Hill with Union Capital.

Just a couple quick questions. I know most of your business is coming from retrofitting, but how much are you all aiming to produce from new manufacturing such as boats, barges? Have you all considered doing the commercial fleet like go up and down the Mississippi, say, BlueWater Boats that are being manufactured? Are you all really trying to work yourself into that niche, or is that somewhere that you all have had a little bit of resistance or if you could just discuss where you are going go with new manufacturing?

Yes, Steve, we are actually discussing that now. We know that this IntelliTube for the military, a scaled down version of that would be received very, very well in the, let's call it, the support side of the military, which is Sealift Command as well as in foreign Navies and the Merchant Marine. Quite honestly, we have done everything we can internally here to focus our resources and to get some wins under our belt.

We think that we -- well, we actually, we're very confident we have that now, that we've won the Navy business here. And so, we're pulling together plans right now where we can begin to explore and begin to sell to those other related markets that would value IntelliTube, and one of those being the Merchant Marine, Coast Guard, for instance, and again, friendly foreign Navies.

How -- why is it that you guys haven't focused on shipping companies and those type of related activities, that, that's a huge market that you could really just step in and start selling to, with a superior product, to everyone else.

Yes, I agree completely with you. This is John Davenport. The reason that we haven't is simply because we've been working with the Navy, and the Navy has been providing the funding to develop this product, and they get it first basically. However, you are absolutely right, we are going after that, and, in fact, with the Navy's blessing.

I did notice, I know it's a tough quarter four guys, and I have noticed through multiple other companies that I follow and it seems like everybody had a really tough quarter in the LED space. Is that what you all are feeling from everyone as well?

We've seen similar things. So, I think your observation is correct. We're looking forward to a much better fourth quarter. We're glad we're in it.

Okay. All right, guys. Thanks.

And that does conclude our question-and-answer session. At this time, I would like to turn the conference back to you, Mr. Kaveski, for any additional or closing remarks.

Well, thank you, operator. And I guess I would just like to conclude by, once again, thanking everyone for participating in today's call. I would like to give a special thanks to our employees, especially the military R&D team, which has done just a remarkable job in terms of the military version of the IntelliTube. And I look forward to our next call where we'll discuss our year-end results and talk further on how IntelliTube is progressing to help our customers save money and to create value for our shareholders. So, thank you again and have a great evening.

That does conclude today's conference. We do thank you for your participation.