Fuel Tech Inc (FTEK) 2006 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the first quarter 2006 Fuel-Tech N.V. earnings conference call. My name is Michaela, and I will be your coordinator for today. [OPERATOR INSTRUCTIONS]. As a reminder, this conference is being recorded for replay purposes. Now I would like to turn the call over to Tracy Krumme, Director of Investor Relations. Please proceed, ma’am.

Thank you, Michaela. Welcome to Fuel Tech’s first quarter conference call. By now, all of you should have received a copy of today’s release. If you have not, please call 203.425.9830, and we will be happy to send you one. Joining me on the call this morning is Ralph Bailey, Executive Chairman and Chief Executive Officer, who will be available for the question and answer session; John Norris, Fuel Tech, Inc.’s President and Chief Executive Officer; and Vince Arnone, Senior Vice President, Chief Financial Officer, and Treasurer.

As a reminder, the matters discussed in this conference call, except for historical information, are forward-looking statements that are subject to certain risks and uncertainties that could cause actual results to differ materially from those set forth in our forward-looking statements. The factors that could cause these results to differ are included in our filings with the SEC. The information contained in this call is accurate only as of the date discussed, and investors should not assume that statements made in this call remain operative at a later date. Fuel Tech undertakes no obligation to update any information discussed in this call, and, as a reminder, this call is being broadcast over the internet and can be accessed at our website, www.fueltechnv.com.

With that said, I would now like to turn the call over to John Norris.

Thanks, Tracy, and good morning to everyone. We appreciate all of you joining us on this call.

We’re very pleased to report first quarter results which have gotten us off to a great start for 2006. Our quarterly revenues reached an all-time record of $17.1 million, up 42% from the first quarter of 2005. Pre-tax income was $2.4 million, or $0.10 per diluted share, up 96% from the first quarter of 2005. After tax, net income on a fully diluted basis was $0.06 per share, double the first quarter results of last year. Finally, our cash and short-term investments at the end of the first quarter totaled just under $19 million, also an all-time record high. Now, Vince Arnone will go into greater detail with the financial results in just a few minutes. But, as you can tell, we’re off to a great start this year and well on our way to delivering the strong results that we anticipated in our 2005 year-end call in March.

First, for those of you joining the call for the first time, Fuel Tech is an integrated company that uses a suite of technologies to provide boiler optimization and air pollution control solutions to our utility and industrial customers globally. For reporting purposes, we broadly group these technologies into two product lines, FUEL CHEM and Air Pollution Control, or APC. This outstanding quarter found both our product lines generating significant growth in revenues. Equally important, we have begun to lay the groundwork for further penetration in selected markets. Leading the way is our air pollution control technology product line, which had revenues of $12.4 million, up 49% over the revenues of the first quarter of last year. Included in this technology group is our NOxOUT selective non-catalytic reduction, or SNCR, technology, which continues to be deployed throughout the U.S. at smaller and medium-sized coal-burning power plants. SNCRs provide very cost-effective technology that achieves a medium level of NOx removal from flue gas, but at significantly lower costs than a selective catalytic reduction, or SCR, system. As air pollution reduction legislation and rules continue to be enacted at the federal and state levels all across the country, our SNCR market continues to expand, not only for utility power plants but also for industrial boilers and other facilities, such as cement kilns, which could be a good new market segment for us soon.

In addition, utilities that have installed very expensive SCRs on large baseload units are looking for cost-effective means to reduce NOx even further. One innovative way of doing that is to install our SNCRs in front of the SCR in an arrangement somewhat similar to our NOxOUT CASCADE process but will a full-sized SCR. Clients have expressed interest in such projects in the U.S., and we believe there may be market potential here. Internationally, especially in China, our NOxOUT CASCADE is receiving much interest from utility clients there.

One of the other APC technologies showing great market potential is our patented ULTRA technology, which is typically installed on a large utility coal unit that has or is installing an SCR. The ULTRA process converts urea, which is common in most fertilizers, to ammonia just before it is injected into the boiler. This avoids having to use anhydrous or aqueous ammonia, which have significant safety and homeland security issues. Clients have shown considerable interest in this technology so far this year.

Our FUEL CHEM product line also had a good first quarter, despite difficulties caused by high oil prices and rail transportation disruptions and continued delays for western coal, especially from the Power River Basin area. First quarter revenues for this sector were $4.8 million, up 28% over the first quarter of last year. Currently, we have our targeted in-furnace injection, or TIFI, systems installed or being installed on 32 electric utility units, of which 21 are coal-fired units and 11 are oil-fired. In addition, our system is installed on 12 industrial units that use a wide variety of fuels, including coal, oil and municipal waste. Now, the high cost of oil has sidelined the operation of our TIFI systems on most of the oil-fired electric power units. In addition, very low Powder River Basin, or PRB, coal inventories at many utility plants combined with rail transportation difficulties from the PRB region, caused many plants to curtail their operations or buy different coals which reduced the use of our TIFI on those units. Still, despite those setbacks, we continued to have success marketing our systems in the U.S., including gains on units burning other than PRB coal. Especially encouraging is our success on a coal unit burning Illinois basin coal. This coal has largely been ignored by utilities in the past few years due to its relatively high sulfur content. Now that is changing. As coal-powered plants add sulfur removing scrubbers at a great rate, they are again considering coal from these significant reserves. This coal, however, also has minerals which cause slagging, and that problem can be addressed by our TIFI technology. This TIFI technology can also significantly reduce SO3 emissions, which are a big problem for plants burning high-sulfur coal and have an SCR installed. These are all new and relatively unserved market areas for us.

Internationally, we continue to have growing success in Europe with our technologies, particularly in the cement and municipal solid waste sectors. In Mexico, the TIFI project for the first three small units is on schedule and should start up this summer. The Mexican market continues to show much promise for Fuel Tech. We are very confident that we can provide the kind of results that the country of Mexico as a whole needs to control a severe pollution situation as well as solve significant slag problems. The major near-term international market for us is the People’s Republic of China. With our attractive suite of APC technologies, we continue to make significant end roads in this vast market. The previously announced contracts covering six units are valued at $15.3 million and are on schedule. Equipment for the first units has been shipped and received in China. In addition, Fuel Tech is hosting a significant conference in China at the end of this month. Our contacts with potential clients in China indicate much interest in our cost-effective technologies to reduce their smog problem, especially with the upcoming Olympic games.

Finally, we have started initial marketing efforts to go after the sizeable market in India. This country uses high slag-producing coals in its 64,000 megawatts of coal-fire generation, and they have terrible smog problems. Our new Senior VP of Project Execution and International Business Development, Mike Maley, and I met with the Energy Minister of India recently, and there seems to be much potential for us there.

Now I’d like to turn the call over to our Chief Financial Officer, Vince Arnone, to further discuss the financial details of our quarter results.

Thank you, John, and good morning, everyone. As John mentioned, net sales increased 42% to $17.1 million. This represents a second consecutive record quarter and a $5.1 million increase over the first quarter of 2005. Pre-tax net income for the first quarter was $2.4 million, or $0.10 per diluted share, compared with $1.2 million, or $0.05 per diluted share in the comparable quarter of 2005. Net income for the first quarter was $1.4 million, or $0.06 per diluted share, compared with $0.8 million, or $0.03 per diluted share, in 2005. First quarter results include $227,000 in stock-based compensation expense, reflecting the January 1, 2006 adoption of Statement 123R, share-based payments. Fuel Tech is using the modified prospective transition method, whereby compensation expense is recorded using fair value estimates for both new awards and awards previously granted but not fully vested as of the adoption date. Results for the quarter also include $1.1 million in income tax expense, virtually all of which is non-cash, as Fuel Tech realized the benefits of tax-deductible stock-based compensation expense.

Net sales for the APC product line were $12.4 million in the first quarter, a $4.1 million increase over the first quarter of 2005. This product line continues to experience a high level of order activity as utilities and industrial facilities, both domestically and abroad, continue to prove that Fuel Tech’s suite of technologies provides viable solutions for their emissions reduction planning. Fuel Tech continues to work towards developing alliance agreements with critical customers looking to finalize their compliance plans and towards the cultivation and generation of business opportunities outside of the United States. The backlog for the APC product line is $23 million as of this date, and approximately $9 million in orders have been announced thus far this year.

The fuel treatment chemical product line generated revenues of $4.8 million in the first quarter of 2006, an increase of $1 million over the comparable quarter of 2005. This product line’s growth, although indicative of the continued market acceptance of Fuel Tech’s patented TIFI technology, would have been enhanced had revenues not been hampered in the first quarter of 2006 by the two market dynamics that John discussed earlier, namely the high price of oil and the rail-related shortages of Powder River Basin coal. The outlook for the fuel treatment chemical product line is exciting. Western coals are being burned in larger quantities and in an increasing number of facilities due to its lower cost and lower pollutant content. Further, as John mentioned, Fuel Tech has had recent successful demonstrations on utility units that burn Illinois Basin coal. The use of this coal, whose high iron content can create slagging and following issues, is likely to provide the fuel treatment chemical product line with additional market opportunity in the future.

In addition to the above, new technical markets being explored and pursued include the SO3 plume abatement market, which is a key concern in many utility and industrial operations today, as well as the corrosion reduction market for the municipal solid waste incineration industry. Both areas represent market opportunities for Fuel Tech.

Gross margin for Fuel Tech as a whole was 47% for both the first quarter of 2006 and 2005. Gross margin for the APC product line was 44% in the first quarter of the year versus 48% in the first quarter of the prior year. The decrease is attributable to the mix of project business in the first quarter of the year in favor of slightly slower margin but higher revenue-generating turnkey projects. Gross margin for the fuel treatment and chemical product line increased to 55% in the first quarter from 46% in the prior quarter. The improvement is due to the timing of completion of cost share demonstrations and to the increase in revenue which leveraged fixed costs.

SG&A expenses for the first quarter were $5.4 million, an increase of $1.4 million over the first quarter of the prior year. The increase is due to revenue related expenses as both business segments had significantly improved revenue growth in the first quarter of 2006 versus the prior year and to human resource related expenses as staffing levels have been increased in several areas to accommodate our overall business growth. The recording of stock compensation expense in accordance with Statement No. 123R, as discussed previously, also contributed to the increase. R&D expenses for the first quarter were at the same level as the prior year. Fuel Tech continues to pursue commercial applications for technologies related to its core businesses. The increase in other income and expense for the first quarter of 2006 versus the prior year is due principally to an increase in interest income, driven by the higher average cash and short-term investment balances and to increase in market interest rates. As noted previously, Fuel Tech’s recorded income tax expense of $1.1 million in the first quarter-- virtually this entire amount is non-cash as Fuel Tech realized the benefit of tax-deductible stock-based compensation expense.

Our balance sheet continues to show increased strength, resulting from the leverage of Fuel Tech’s business model. At March 31, 2006, Fuel Tech has cash and cash equivalents and short-term investments of $18.9 million and working capital of $24.8 million versus $16.4 million and $19.6 million at the end of 2005. Operating activities used $0.6 million of cash in the first quarter of 2006 due to the change in working capital from the end of 2005. Investing activities used cash of $8.7 million during the quarter, as short-term investments were increased by $8 million and $0.7 million was invested to support and enhance the operations of the business, principally for equipment related to the fuel treatment and chemical product line. Financing activities generated cash related to the exercise of stock options in the amount of $3.8 million. Of this amount, $2.8 million represents proceeds from Fuel Tech’s stock options exercise in the first quarter of 2006 while $1.1 million represents excess tax benefits realized from the exercise of these options in the first quarter.

Overall business activity continues to trend favorably for both product lines. We expect to announce additional business both domestically and abroad in the near term. Our revenue guidance for 2006 will remain the same at $65 to $70 million. The APC product line is expected to generate $40 to $43 million in revenue, and the FUEL CHEM product line is expected to generate $25 to $27 million in revenue.

Our pretax net income without the impact of Statement 123R for this revenue range also remains the same at $0.45 to $0.50 per diluted share. The impact of Statement 123R on Fuel Tech’s income statement, which was originally estimated at $0.03 to $0.04 per diluted share, is now expected to be in the $0.06 to $0.07 per diluted share range, based on an increase in the value of Fuel Tech’s share-based awards.

With that, I’ll turn the call back over to John.

Thanks, Vince. In summary, we’re excited about the record results that have been achieved, as well as the significant growth opportunities before us. Fuel Tech’s business momentum has never been stronger.

With that said, operator, can you please open up the lines for questions?

[OPERATOR INSTRUCTIONS]. Our first question comes from the line of John Quealy of Canaccord Adams. Please proceed.

Hi. Good morning. Congratulations. Great quarter here; beat me by a couple pennies. A couple things here. First, I guess, if we could go on the FUEL CHEM, the TIFI stuff, you gave some plant metrics. Can you comment of the current population? How much of your installed base there-- how much is actually shut down due to high oil or PRB issues?

The PRBs are coming back. There was a depression in a number of the coal units. We gave you 21 coal-fired units, and several of the significant ones were depressed in their operation. They actually curtailed operation on a few of the plants. Some of them switched to more expensive coals because that’s what they could get, while they’re trying to build up inventory for the upcoming summer where the prices are going to be a lot higher on the coal side. On the oil side, we’ve got 11 installed, or being installed, systems on utility boilers. Almost all of those in the U.S. were curtailed in the first quarter. We had a little bit of operation, but generally they were curtailed on the utilities side most of the quarter. Now, we’ll see that, John, picking up in the summer when these units are brought back on, almost regardless of the oil price, to meet the peak demand this summer.

John, also as just a point of reference as it relates to the oil-fired business, year on year for the first quarter, ’06 versus ’05, if you just look at the oil-fired revenues, we’re down just under $1 million year on year, first quarter of ’06 versus ’05 - just on the oil-fired business. That gives you a little bit of an indication as to the financial impact of the high price of oil first quarter of ’06 versus ’05.

Okay. I’m not sure I got your outlook for the back half of the year. But, on the FUEL CHEM side, were you looking at $25 million or something in ’06 revenues?

$25 to $27 million is our target. Yes.

Okay. And, you did $4.75, so you’re looking at a pretty decent back half of the year, or at least seasonal spike in the [peaker] stuff.

Yes; we are.

In terms of the APC backlog, the $23 million, and you talked about mix, Vince, in terms of the turnkey business, can you comment on the relative composition of the backlog? Is it a lot of turnkey business which might give us a little bit lower margin in the next couple of quarters, or is it just sort of book-and-ship type stuff?

I think it’s actually going to be similar in nature to what we experienced in the first quarter from a margin percentage perspective, in that 44% to 45% range. That’s really been the normal trend for that particular product line as we look back historically. If you recall, as we discussed last year’s margins for the air pollution control side, we commented that they were basically a little bit higher than we would have normally expected them to be, particularly driven by a couple of projects that just had substantial gross margins due to some outstanding sales efforts and outstanding engineering efforts on those projects. So, what we saw in ’05 was a little bit higher than normal. I think we’re coming back to a little bit of an overall margin level which is normally where we would expect to be, somewhere in that 45% overall range.

Okay. I think the last numbers question I have-- the tax rate was pretty high. What sort of tax rate are you looking at for the full year?

Right. Keep in mind that the effective tax rate for Fuel Tech, Inc., the U.S. company, is about 38%. We also have some expenses at the Fuel-Tech N.V. holding company level. So, when you factor that into the overall equation, the overall effective tax rate for Fuel-Tech N.V. as a company as a whole was approximately 42% or 43% - somewhere in that range. Does that make sense?

Yes. It certainly does. Are things still ongoing with regards to the domicile issue, or where does that sit?

We’re still targeting this fiscal year, fiscal year 2006. A specific date is not yet known, but 2006 is our goal and our target; and we feel extraordinarily confident that it’s going to be met.

Okay; great. A couple of qualitative questions. Can you give us an update on the China opportunity? I know in the last quarter-- on the last quarter’s call we talked about beefing up perhaps our internal sales efforts in China with the people we already have on the ground, as well as bringing in some third party. Can you just sort of walk us through what’s happened in the last quarter there?

A lot of good things have happened and continue to happen in China. The addition of Mike Maley to the team brings a heck of a lot of Asia experience. He spent a lot of time over in India and in China in his prior career. He brings a lot of personal knowledge with some of the key individuals leading that. Our VP, Linda Lynn, has done a great job of opening a lot of doors very quickly. John, we’re probably as excited about China right now as we have ever been about any market anywhere. We think there’s going to be a lot of good things happen, and happen this year - not just longer term. This upcoming conference at the end of the month is really showcasing our technologies to reduce their NOx, and it is being well attended by current registered-- it has over 100 participants of the very senior power generation folks in China, including some very high level political figures that have recently announced. Mike Maley is the keynote speaker.

Oh, great.

By the way, you asked earlier-- just one data point from you-- or for you-- for the FUEL CHEM. While I gave those numbers about the number of coal-fired utility units that have installed or are being installed, there’s like five of those major units that are just in startup that we got very little revenue from in the first quarter but are really excited about their prospects for the year. So, there’s a lot of good news there.

Is there any movement--? I know the last quarter we talked about one state allowing some rate case recovery for fuel [Penn]. Any movement you can give us on other states or other efforts you’re going with your customers to try to get rate case?

That’s one of those things where we can only help in the background because utilities do not want us coming between them and their public utilities commission. But, having said that, the one state that’s out there clearly is Florida. We have at least two other clients in two other states that have indicated they either have or they anticipate having soon pass through for our FUEL CHEM cost.

That’s great. My last question on the domestic. In terms of the air pollution control with SIP call, how’s the relative visibility looking in terms of number of boilers out there that you folks can go ahead and clean up as that program matures in the next couple of years?

Well, it’s not only the SIP call, John. It’s a good question. We had looked at the market in anticipation that we would be installed on a lot of the small and medium units that couldn’t afford economically to install an SCR on, and that’s still true. No change there. However, as I’ve indicated in my earlier remarks, there are new markets actually coming about because of all the various federal-- not only SIP call, but all these states. You hear about them almost every day, a new federal or state regulation either being passed by a state or being proposed by people in congress. Those are opening up exciting new opportunities, as I talked about, in SNCR with an SCR to help reduce NOx. That is actually a market we didn’t anticipate, and that really looks promising. So, again, we’re seeing lots of new opportunities that just five months ago we probably wouldn’t have had on our radar screen.

Okay. Great. Lastly, how is the engineering or front-end work on the Mexican TIFI units going?

They’re going fine. The Mexican units ship at the end of this month and start up July 15.

Perfect. Great. Again, great quarter, guys.

[OPERATOR INSTRUCTIONS]. Your next question comes from the line of David Beard with Morgans Waterfall. Please proceed.

Good morning. Given that you had such a strong quarter out of the box and didn’t raise guidance for the year, what are your thoughts there?

The primary driver for the first quarter was really the air pollution control business in the strong quarter at around $12.4 million in revenues. We have some quarter-to-quarter shifts in how we recognize revenues as it relates to that business, as you know. Some of what we realized here in the first quarter-- it’s a little bit of a pull through from the second quarter, so we have a little bit of timing shift there. But, to the point whereby-- we’re not in the position today to go ahead and change that full year revenue outlook for the APC segment at that $40 to $43 million range. We can’t just take the $12.4 million and annualize that and say, okay, now our number is $48 million. As we’ve discussed on previous conference calls, we do have some movement quarter to quarter as to when we can recognize revenues on those projects. So, we had some favorable timing in the first quarter, basically.

That kind of pulled business from the second quarter into the first quarter? Is that how we think of that?

A little bit; yes. But, it also will be the case that some from the third will fall into the second and from the fourth into the third. It depends on timing of how these projects proceed as it relates to our customers’ schedules. Sometimes we get sudden surprises; other times we have delays in when a customer will actually have us move forward on their projects. So, based upon the picture we have today, again, we feel comfortable with the $40 to $43 million range on the APC side.

And, the second question. Gross margins on the FUEL CHEM side were pretty strong. What accounted for that, either versus last year or even the fourth quarter last year?

Right. Versus last year, it’s predominantly due to the timing of some of the risk share programs that we have in place. The first quarter of 2006 did not have the level of impacts of those programs that we’ve experienced in prior quarters. That’s the primary reason there.

Okay; good. Thank you.

[OPERATOR INSTRUCTIONS]. Our next question comes from the line of Arthur Terry, private investor. Please proceed.

I’m a private investor and have been for many years in your company. I have a little bit of longer range question. What percentage of all the potential users of your products in the whole world do you feel that you’re actually in business with? In other words, what is the overall potential market? And, the second part of that is a question about what kind of competition you’ve got?

Arthur, this is John. I’ll try to answer that. We’ve not tried to quantify the worldwide potential. As we’ve looked at any individual market-- Heck, we haven’t yet tried to fully quantify China, just as one. I gave you a little bit of the opportunity looking at India. Both are adding a lot of new units. So, we’ve just scratched the world market with our technologies. There’s a large playground to move in there. The second part of your question?

Was what competition you’ve got.

Oh, the competition. On the air pollution control side, we don’t really have competition, and the market niche for our SNCR technologies-- the usual choice by clients is do they want to spend a lot of money and get a lot of reduction? An SCR on a 600 megawatt power plant, for example, will cost $100 million, or maybe a bit more. It will get 90% reduction. Our SNCR will cost $4 to $5 million and will get 30% reduction. So, it really depends on what the client is trying to achieve. We are very cost effective. We get a third of the reduction for one-twentieth of the cost. For a lot of markets worldwide, where they want to help clean up their air but don’t have a lot of money to spend on, that’s a very cost effective solution. Our NOxOUT CASCASE is right in the middle of that range. It’s a bit more expensive than just an SNCR because we put a smaller SCR with it. But, we can get 50% range reduction and, again, for a fraction of the cost of a full SCR. So, the competition really is about what you’re trying to achieve. We believe on the world market, we’ve got a great product for that market. On our FUEL CHEM side, it’s our technology and our ability to target where we’re injecting very small quantities of magnesium hydroxide to clean up slag problems and to reduce SO3 problems that differentiate us from any other competitor out there with some sort of spray on the fuel technology or a non-targeted kind of injection. We believe that’s a market differentiator; it’s the basis of our patents. And we’ve been very successful as clients have learned what we can do.

Thank you. That’s very interesting. Europe is going to come along too; not only China?

It’s coming along fast right now. We’re seeing a lot of really exciting opportunities in Europe, especially on the non-utility kinds of applications; as I mentioned, the industrial boilers and cement kilns. Europe is pretty-- There’s a worldwide movement for cleaning up the environment, and it’s a good time to be in the kind of business we’re in and especially to have the technologies we have.

Sounds good to me. Thank you.

[OPERATOR INSTRUCTIONS]. At this time, there are no further questions in the queue, and I would like to turn the call back over to John Norris. Please proceed, sir.

Well, thank you. Thanks, everybody, for participating in this call with us. It’s been an exciting first quarter, and we’re looking forward to the rest of the year. Thank you very much. This ends the call.

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect, and have a good day.