Westport Fuel Systems Inc (WPRT) 2004 Q4 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Westport Innovations fourth-quarter and year-end financial results. At this time, all parties have been placed on a listen-only mode, and we will open the floor for questions following the presentation. At this time, it is my pleasure to turn the floor over to your host, Barbara Barry, Westport's Director of Investor Relations. Please go ahead, ma'am.

Thank you, Maria. Good morning, everyone. My name, as Maria said, is Barbara Barry. I'm Director of Investor Relations at Westport Innovations Inc. Welcome to our fourth-quarter and year-end conference call for the 2005 year. It's being held to coincide with the disclosure of our financial results. For those who haven't seen it yet, the news release is on Westport's website at www.Westport.com, and the financials and MD&A are also posted on the website.

The first part of the call today will involve a prepared statement, read by Westport's Chief Executive Officer, David Demers. After David's introduction and summary, Elaine Wong, Westport's Chief Financial Officer, will provide a breakout of the Company's financials. After that, Guan Saw, Cummins Westport President, will review CWI activities for the quarter. The speeches will then conclude with Mike Gallagher, Westport's President and Chief Operating Officer, who will speak to Westport's development programs.

Attendance at this call is open to the public and to media. But for the sake of brevity, we are restricting questions to analysts and institutional investors. Please identify yourself by name and company when asking questions. For anyone else who has questions or requires additional information, we would please ask that you contact our Investor Relations department via e-mail at invest@westport.com.

This conference call may include forward-looking statements expressing Westport's expectations, hopes, beliefs and intentions on strategies regarding the future. It is important to note that Westport's actual future results could differ materially from those projected in such forward-looking statements because of a number of factors, including but not limited to general economic conditions; business and financing conditions; labor relations; government actions; competitor pricing activity; expense volatility; and other risks detailed from time to time in the Company's filings with regulatory authorities.

Now I will turn the call over to David Demers, Westport's Chief Executive Officer. David?

Thanks, Barb, and good morning, everyone. Fiscal '05 was the best year in Westport's history. We're positioned for strong progress in our current fiscal year and in the years ahead. As we look back over the year, our management team had three primary objectives. First, we launched Cummins Westport, our joint venture with Cummins, on a radically revised business plan focused on the worldwide bus and urban truck market. Our goal with this business plan was 20% compound growth over 2003 and breakeven or better performance at the bottom line.

Second, we refocused Westport's product and technology development programs on projects where we believe that we could develop committed financial partners with the critical mass and the motivation to carry through to market entry and market development.

And third, without compromising our business growth plans in either CWI or Westport, we wanted to cut our cash burn rate by 30% over the course of our fiscal year and manage our cash resources to reduce our long-term business risk.

We achieved excellent results on all three fronts. We're confident that we're on the right track and that we will see continued improvement in our prospects going forward. CWI was, in fact, profitable in its fiscal year, which was a major achievement given the restructuring and the management changes it went through. Over the past three years, CWI has grown its revenue in U.S. dollars by over 35% compounded annually. Growth last year was at 40%. Compared to two years ago, CWI has doubled the number of countries where it's selling products, and it's more than doubled the number of international vehicle OEMs offering Cummins Westport engines in factory vehicles to 35.

In CWI's first quarter this year, which of course is our fourth fiscal quarter, CWI got off to a fast start with the largest single order we've received from Beijing Public Transit, and had commenced shipping the L Gas Plus to the Metroliner program in Los Angeles, among other major customer orders. The quarter was the second strongest revenue performance in the past eight quarters.

CWI also completed its executive transition, with Guan Saw stepping into the President's position officially on April 1. As you'll hear in a few minutes, Guan has ambitious plans for the business.

Westport's path to profitability plan made very substantial progress during the year. By the end of the fiscal year, our product and R&D programs are collectively at the breakeven point. External strategic partners covered 100% of our direct financial costs. This is important not just for cash conservation, but to ensure that Westport can develop the critical mass needed to successfully launch our products into these new markets.

It's simply not possible for us to do this on our own in this industry. We need committed partners, and this year saw the sustained development of that commitment around the world in every one of our initiatives. This process is accelerating, in fact, and we're confident that we will see continued expansion of our business prospects and partnerships this year.

Growth and global expansion is never without risk, of course. We need to prudently manage our cash resources and do our best to invest only at a sustainable pace. Our goal this year was to cut our net cash burn rate by 30%. We beat this goal by 50%, and with the additional equity raise during the year, we ended the year with as much cash as when we started. At our current burn rate, we've got well over two years cash resources in hand with additional capital from outstanding warrants due next March if market conditions are favorable.

We've cut our risk dramatically and we're doing that by rapidly building our international business, developing new markets and developing new technologies. As these new initiatives mature, we can expect quick financial returns because our business model does not require substantial working capital or manufacturing scale-up investments. We can grow very quickly with incremental profits. We expect that this should generate substantial shareholder value over time.

Elaine will take you through the numbers, but let me close by saying that although we're pleased with the quarter and with our year, our position has never been stronger looking ahead. Market forces are clearly moving to be more favorable to our business in our major markets around the world, including North and South America, Asia and Europe.

With continued volatility in the fuel markets, many fleets, policymakers and governments have been seriously discussing our ideas on the benefits of natural gas as a primary fuel for transportation. As you might expect, our partners at Clean Energy Fuels are very busy these days in North America. That business is doing very well, by the way, and the strategic value of our ability to offer long-term fixed prices for natural gas fuel has become very important to fleets. We continue to see great value in working together as a team to provide fleet customers with a complete solution.

Oil has been the overwhelmingly dominant fuel for the transportation industry in the 20th century. But the world needs to diversify quickly, for both environmental and economic reasons and energy security reasons. Natural gas has emerged as the only real alternative, and it's already established itself in many countries around the world. We remain the acknowledged global leader in this area with the broadest technology base, strong OEM relationships and the largest range of commercially available solutions.

We expect to continue to grow and prosper over the long term. Of course, there is going to continue to be bumps in the road, and we can't promise uninterrupted, smooth financial progress every quarter. We must prudently manage our business risks and respond to new opportunities as they present themselves. But we have a disciplined team, we are working hard and we're making steady progress as we build a great company.

Thank you again for your patience and support, and I will turn it over to Elaine to take us through the numbers.

Thanks, David, and good morning, everyone. Our results have only been out for a couple of hours, so I will go through the highlights slowly this morning. The financials and MD&A are posted on our website. However, before I get to the numbers, I'd like to walk you through some of the accounting for CWI.

First, it's important to remember that Westport and CWI report in different currencies and have different fiscal years. Westport reports in Canadian dollars and has a fiscal year which ends on March 31. And Westport reports in Canadian dollars and has a fiscal year which ends on March 31. We translate CWI's results into Canadian dollars in our consolidated results. On a stand-alone basis, CWI reports in U.S. dollars and has a fiscal year which ends on December 31.

Secondly, until December 31, 2004, Westport accounted for CWI on a proportionate consolidation basis, which meant that we picked up our 100% economic interest in CWI even though our ownership interest was only 50%. Recall that under the terms of the revised joint venture agreement, we were required to take the risk of any losses in CWI's '04 fiscal year and in return, we would earn 100% of any profits in the year. As you know, CWI in fact ended the year with a small profit.

Under proportionate consolidation accounting, effective January 1, 2005, when Cummins' economic interest went to 50%, we would have started to consolidate only to the extent of CWI's revenues, expenses, assets and liabilities. However, under the new variable interest entity accounting rules which also came into effect in the fourth quarter, we determined that we should see -- continuing to include 100% of CWI's revenues, expenses, assets and liabilities in our consolidated results and show Cummins' 50% interest as a one-line item on our balance sheet and in our income statement. There's no impact the bottom line.

I'm not going to get into a detailed discussion of the IE accounting this morning. It's a very complicated section. However, I should say that after an equal analysis of the VIE accounting guidelines, and after reviewing our conclusions with our auditors in Cummins, we believe that VIE accounting provides the appropriate disclosure given the terms of the JV agreement and under current accounting principles.

These are the results for the year ended March 31, 2005. As David noted, we are very pleased with the numbers this year, particularly with the 46% reduction in our operating cash number from $25 million last year to $13.6 million in the fiscal 2005 year.

A non-GAAP measure, we use cash used in operations before changes in working capital as our key measure for how well we're managing our business and our transformation from an R&D company to a commercial entity. In Canadian dollars, total revenues for the fiscal 2005 year were $34.4 million compared to $32.4 million in the prior year. Gross margins were $1 million higher than in 2004. Our operating expenses, net R&D, G&A and marketing, decreased by $10.6 million.

Bottom-line, we ended the year with a net loss of $26.2 million compared to $37.7 million in 2004, and loss per share improved by 41% to $0.38 per share from $0.64 per share in the prior year. Included in this loss-per-share number is a $3.1 million onetime write-down of an investment in Edge Technologies taken in Q4 '05. I will come back to discuss Edge in a few minutes.

On a revenue basis, product revenues were $25.7 million on shipments of 1277 engines compared to 28.1 million on 1255 engines shipped in the prior year. Most of the 9% decrease in product revenues was attributable to foreign exchange, with the U.S. dollar weakening by approximately 6% during the year compared to the Canadian dollar.

Parts revenue more than doubled in the year from $4.3 million to $8.8 million with a change for parts operations and accounting, which resulted in us reporting parts on a gross basis versus net as of January 1, 2004.

Gross margins contributed $10.7 million in fiscal 2005, up $1 million from 2004. Much of the increase in gross margins can be attributed to increased reliability in CWI's products and a resulting decrease in its warranty. On a percentage basis, product margins averaged approximately 3% and parts margins averaged approximately 36% throughout the year.

As at March 31, 2005, we had $20.3 million in cash and short-term investments, which is about where we started the year. During the year, we raised $15.2 million in equity and used 13.6 million in operations before changes to working capital. In 2004, we used $25 million in operating cash.

The 46% year-over-year decrease in operating cash used before changes in working capital was successfully achieved primarily through our effort to pace R&D programs with funding and to aggressively reduce overhead. R&D expenses are down almost $8 million, G&A, $600,000, and sales and marketing, $6.3 million. However, as Michael will speak to a little later on, we continue to further our developments in demonstration programs with government and partner funding, and we're still investing our sales and marketing activities through CWI.

Results for the fourth quarter were solid. Total revenues were $10.4 million on 445 units shipped, compared to $13.3 million in full revenues on 463 units shipped this quarter last year. CWI made a small profit this quarter of $200,000 compared to 1.1 million for the same quarter last year. Consolidated cash used in this quarter was $3.1 million and consolidated loss per share was $9.3 million, including our $3.1 million write-down of Edge, which I mentioned earlier.

Edge Technologies is a small Iowa-based company that we acquired 5% of in 2000. As part of our long-term technology license and supply agreements for this technology, during the fourth quarter, Edge restructured its debt and we determined that it was appropriate to reevaluate our investment in the company. We continue to work with Edge on Terfenol-D and our supply and licensing arrangements are unchanged.

For the last two years, we've been talking about our cost profitabilities and using words such as restructuring, deferring and pacing spending. For the most part, the first part of our journey has been successfully achieved. Since 2003, we have reduced our operating cash requirements by 65%, from $39 million in fiscal 2003 to $13.6 million in fiscal 2005.

Our goal as a management team is to continue to move our burn rate downward and of course to resume profitability. I can't say exactly when we will hit breakeven and resume profitability.

Quarterly results are still volatile due to the timing of customer orders. There are inevitably going to be a few bumps in the road, and we must balance long-term investment opportunities against our short-term income statement to achieve profitability.

We will need to continue to see growth in CWI. We will also need to see positive contributions from at least one of our Westport development programs. We're turning our focus from R&D and development to sales, growth and strategic position of our business plan. As you'll hear from Guan and Mike, we are working on some very exciting opportunities that will position us well in the next year.

Thank you for your attention, and I will now turn the call over to Guan.

Thank you, Elaine. Good morning, everyone. I'm currently calling from Beijing, China. Today, I will review CWI's three geographic performance cells -- Americas, Asia and Europe -- in the first quarter, calendar year, as well as the forecast for the remainder of our 2005 year. I will also discuss CWI key initiatives.

Q1 actual volume was 445 units, considerably better than last quarter's 338 units. Revenue continues to be available, depending on product mix and the effect of large single orders. This quarter, we saw us ship 205 B units to Beijing Public Transit, for example. Higher margins for Americas and Europe improved the overall net income. Parts revenue and margins and management control of expenses also contributed to the improved net income.

The full calendar-year forecast for engines is expected to be more than 1500 units. As David said, CWI grew in 2004 by 40% in revenue. Our original business plan called for 20% compound growth over our planning period. As you can see, we're doing better than planned. And I believe we can continue to see strong revenue and profit growth for CWI.

Americas -- we had a good Q1 as orders from San Diego and the Santa Monica were shipped. The first L Gas units from L.A. Metro were shipped as well. We continue to see strong market share in transit and shuttle bus markets. We hope that the recent court ruling on the South Coast Air Quality Management District fleet rules will encourage more California fleets to move ahead with the low emission gas engines.

There are also positive signs for future penetration of our natural gas engines in South America. Petrobras, Brazil's state oil and gas company, signed an agreement with Ministry of Mines and Energy by which natural gas pricing will be about 50% of our diesel pricing on an equivalent basis for the next 10 years. Two OEMs in Brazil have used CWI natural gas engines to power their buses.

In Asia, as you have seen, in the past, our customers in Asia typically expect immediate deliveries, whereas North America customers often announce positioning orders that cover several years. Our major order for 450 engines from Beijing Public Transit received in January saw us ship 205 of these units before the end of March. Beijing is experiencing rapid growth in natural gas usage, which is creating price and availability pressures for natural gas. The Beijing city government is working on a solution to fix the current gas supply shortage, which is worse in winter.

With the completion of our second natural gas line from Northwest China, Beijing is also in the process of bringing in liquefied natural gas -- LNG -- to Beijing by the end of the year. We're expecting to continue to receive orders from other cities in China which have natural gas available -- for example, cities like Shanghai, Xi'an and Urumqi. Orders from Manila Metro, Philippines, were shipped. We expect to have more engines ordered from Philippines in later quarters.

Euro -- with the availability of our B Gas Plus and C Gas Plus, European OEMs including Renault are ordering gas engines on a monthly basis. In Russia, an OEM has put into service a prototype natural gas-powered bus in Moscow area as well. CWI has received funding for three CWI natural gas engines to power demo buses in Mumbai, India. Our CWI will also be launching local manufacturing at a Cummins joint venture plan there. So this is a great opportunity for CWI to introduce localized natural gas engines into India.

I have three key initiatives under way to profitably grow the CWI business. One, be a low-cost producer. We are planning to have local manufacturing in countries like India and China for their respective markets. Minimal investment will be made, as manufacturing will be done in Cummins' joint venture plants in India and China. We anticipate that this could reduce our cost materially compared to our current products. which are all made in the U.S. and shipped to Asia.

Two, expansion into new market segments. Besides our strong offerings in buses and refuse trucks, CWI will introduce products in new markets like cement mixers and forklifts this year. These offerings will generate incremental margins for us with relatively little investment required by CWI. Currently, new products launch in 2006 to meet emissions standard in North America and Europe in 2007.

We've announced a major new initiative which will see us launch engines next year with lower emissions, but which improve fuel economy and provide even better reliability and durability for our customers compared to our existing commercial engines.

CWI continues to lead the industry with practical low-emissions engines that offer excellent performance, reliability and value for our customers.

And now I turn the call over to Mike Gallagher, Westport's President and Chief Operating Officer. Mike?

Thank you, Guan, and good morning, everyone. I will make some remarks about the Westport program side of the business and our new business initiatives. These are our primary technology initiatives aimed at diversifying our business in the areas of heavy-duty trucking, light-duty vehicles, hydrogen programs, as well as geographic markets like Europe and Asia.

Our heavy-duty trucking program has made some tremendous strides over the past year, with major new partner commitments for technology development and demonstration, from the South Coast Air Quality Management District and the U.S. DOE National Renewable Energy Lab. With these commitments, we have now transformed our HPDI program from one where we were the sole investors to the tune of several million dollars annually of R&D money, to now, where we have a funded heavy-duty development program that actually made a modest profit at the direct cost level in the fourth quarter for the first time.

Culminating our year of advancement, just two weeks ago in Toronto, May 26, we rolled out the next generation of this trucking technology named the Clean Air Corridor Project. We now have five new demonstration LNG trucks rolling in eastern Canada on the 401 Corridor, the busiest highway in Canada. These new trucks, operated by Challenger Motor Freight, have emissions of only 1.2 grams per brake horsepower of nitrogen oxides, which, as you know, is the 2007 North American standard. And these trucks will run for the next 12 months in full commercial service from Toronto to Detroit.

We were very pleased that many of our partners on this project were able to join us at the launch press conference in Toronto, including SDTC and NRCan and Industry Canada from the Canadian government, as well as Enbridge, Volvo and Cummins from private industry.

On the light-duty front, we have talked the last couple of quarters about the significant new technology and demonstration work proceeding with Isuzu's infusion of $1.5 million for our hot surface technology program. We have reached another significant milestone with this program just last week, with a shipment of the new vehicle prototype to Japan for testing. We built this vehicle to demonstrate to Isuzu management that our Westport systems can be fitted on their smallest truck chassis, known as the Elph NKR, and we have now demonstrated that our CNG DI systems fit nicely into the Elph across its entire engine size range.

Our hydrogen programs also remain active, as we continue our efforts to improve the robustness of hydrogen injection systems for hydrogen engines with both BMW and Ford. These programs are getting a lot of attention, as they offer possible shorter-term deployment for hydrogen in the transportation sector prior to the time when hydrogen fuel cells may potentially become commercially attractive.

We've also begun talking to various interested parties in China about new initiatives to apply our Westport technologies to that rapidly growing marketplace. As Dave mentioned, the pressures of economic growth, energy and oil security, and improvement of urban and global environments are all coming together to create a huge drive and appetite for clean energy technologies such as those we offer.

The recent run-up in oil prices has once again illustrated the world's increasing need for diversified sources of fuel, especially in the transportation sector, where oil has dominated for a century. And we're now engaged in an active set of discussions on new technology and geographic initiatives around the world. And I can tell you we're seeing a noticeable pickup in the level of interest in Westport technology and its potential to create new approaches to commercial transportation.

Just in the last few months, we've announced new working agreements around both HPDI and HSI -- hot surface -- in China for trucks and buses and in Australia for mine trucks. We're also exploring new relationships around the fuel systems -- tanks, pumps, injector systems -- that are critical to commercializing our technologies. We expect to be reporting on the progress of these many new business initiatives in coming quarters.

I want to close by returning to the strong fourth-quarter and full fiscal-year 2005 results that Dave and Elaine highlighted for just a moment. It's clear now that our focus and our executional strategy, which is to progress our technology programs with partner commitments and funding, has been successful and is paying big dividends, both in terms of new and renewed partner commitments and in strong financial performance.

Our 46% improvement in operating cash burn this year, which was on top of a 35% reduction the year before, means we have taken a $25 million annual bite out of our cash burn in two years without sacrificing our core technology leadership position. This has been made possible by our new business model of what we call self-funded programs.

In fact, for the first time in Westport's history, we ran our core programs, which include heavy-duty, light-duty, hydrogen, technology programs, Europe, China and our demonstration projects, in the aggregate on a net breakeven basis in the fourth quarter, an achievement and achievement we and our partners are justly proud of.

There can be no doubt now that we as a management team are serious and are realizing very significant success in driving our Company from a research and development company toward a full commercial enterprise. We look forward to reporting on our success in executing this drive to commercialization in coming quarters.

And with that, I'd like to turn it back to Barb and leave some time for questions from the conference call participants.

Thank you, Mike. We've now completed the formal remarks of the call and are ready to take questions. Operator, could you please queue any questions?

(Operator Instructions). Sara Elford, Canaccord Capital.

Try to keep it reasonably short and I -- some of it is just clarifying what you've already discussed, because you went through a lot of data. So my apologies if I ask questions that you have answered. I think I heard the comment that CWI target for calendar 2005 as far as engine shipments is more than 1500 units? I just wanted to clarify whether or not I heard that right from you guys.

Guan, do you want to summarize that?

That's correct.

That's correct? Okay.

Sara, that's correct.

Okay. One of the things that I just wanted to get my mind around, because obviously the international side of the business is doing particularly well. Shipments in North America down I saw 31% on a year-over-year basis and sort of fiscal 2005, or Westport's fiscal 2005. Is there as far as backlog goes, because you don't discuss backlog, but can you give us an idea of what will it take for growth to resume back there or for it to become less of a lumpy business in North America relative to what it has been?

Hi, Sara, it's David. I'll start with that and Guan can finish. I don't think it's very useful to look at it over a 12-month period. It just doesn't work. I mean, we've been at this now for four years, and it's just so lumpy; it's like trying to analyze the stock market. It depends on where you start and finish your comparisons; you get completely different numbers.

The simple fact is that our biggest market in North America is transit buses, and the transit bus market is dominated by a few big orders every year. And obviously in a 12-month period where you ship one major order, you're going to have lower revenue than in a year when you ship three major orders. It's just the way it is. And it depends entirely on the timing of these deals.

What happened last year in the U.S. was that we had only one major order, compared to two the year before and compared to two or three this year. So we're going to have a weak year last fiscal year, bracketed by a strong 12-month period 12 months before, and it will be a strong year this year. So it's not a question of sales growth or backlog. It's really just the timing of key major orders.

The way we measure our strength in the transit market is to look at market share for natural gas and market share for Cummins Westport. And in both cases, last year was strong in terms of market share. It just happened to be with a 12-month period with relatively little shipments. Guan, do you want to add anything to that?

Yes, Sarah, talking about backlog, as I've mentioned it just right now, that in North America in general, the customers would often place an order, and that are all position orders, and with that order, which is really from forecast (ph). Then the Company will be able to deliver, okay, those orders. And in Asia, the shipment is slightly long -- probably you take about 60 to 90 days to reach Asia from the U.S.

As I mentioned just now, that we do keep inventory in China so that the customers will be able to take immediate delivery for their demand. And generally in Asia, customers do not give you any positioning orders. That is why the backlog in general, we do not have a lot of all these issues. Except that when it comes in like maybe like 400, but we keep it 200, then there's really going to be a problem. But generally, I think that it's quite stable in terms of what we see in Asia's demand.

And talking about the North America -- I believe that last year we do have one of our competitor who reached the market. And our market share has been very stable -- 60, 70% in North America. And when the competitors leave and our market share jumps up, and we're still maintaining quite good market share in North America. And with the position orders, we don't feel that the backorder is really a big issue.

I guess just looking at it, I don't doubt at all that you guys have been able to capture a meaningful share of the natural gas market in North America. I'm just trying to get a feel of at what point you start to see the momentum in the natural gas market in North America start to build. And that's -- maybe it's a cost issue. Maybe it comes down to pure, simple economics for them, and we've talked a lot about that in the past. But, you know, that's the reality of where we sit today and as we start to move into tougher emissions standards and the reliability and performance aspects of Westport's or Cummins Westport's technology, you know, continues to improve, that we will start to see that build. That's my gauge at this stage of the game.

The next question I had really related into burn rate. You guys have done a good job over the course of the last two years. Obviously, you've discussed that. What we saw in the fourth quarter, is that pretty much where we can get to at this point in time or should we assume in the absence of sort of profitability improvements coming out of CWI that for Westport as a whole that what we see in the fourth quarter is pretty much where it will -- where it is today?

Sara, this is Mike. I'll say a couple of words and ask Elaine to do the same. We're not giving guidance for the coming fiscal year. We've been very pleased to where we brought to burn rate down, as you've noted. But I think it's fair to say that we are not satisfied yet. We're going to continue to drive toward breakeven in all directions. That includes encouraging and supporting Guan's initiatives at CWI. But it also includes a continued push for securing partner funding, new sources of government funding and efficient management of our cost structure around the different core programs and the corporate overhead.

So, without giving guidance, I would just suggest that Elaine and I and Dave aren't yet satisfied that we've accomplished everything we want to do, and we're going to keep pushing how much further improvement on those core programs we can make. We'll have to see and gauge the kind of the quarter-by-quarter movement as we go, but ask Elaine to jump in as well.

Yes, I think the only thing I would add to Mike's comments are -- is as you know, we've been working really hard the last couple of years on the cost side of things and driving down their costs and getting more funding. I thing going forward, what you're going to see us doing is really trying to grow the topline and looking at new revenue streams and looking at more partner funding as opposed to just driving down our costs.

That's very helpful. I'm going to go through all the results with I guess a finer level of detail; I haven't had time to go through every note and all that sort of stuff. But if I have questions, I'll get back to you guys. Thank you.

Bob Wallace, Brian Pinch.

A question -- a couple of questions. One is the handling of the U.S. currency. I believe Elaine, you mentioned you've had a bit of a problem with the accounting of that, is that correct?

I don't think we've had a problem with the accounting of the foreign exchange. Certainly we have -- foreign exchange impacts our financial results. And last year, we had a gain of $1 million. This year, the gain was about $600,000. Our policy has been to not hedge foreign exchange. We're looking at exchange rates and if we think it's necessary, in consultation with our audit committee and our Board, we would take a look the policy. But right now, I think we're pretty happy with the way things are going.

So you'll stay unhedged?

We will stay unhedged unless circumstances change to suggest that we should do otherwise.

It's David. Let me just jump in there. I think it's hard to explain, maybe, but just because of the way we do have to report in Canadian dollars, but most of our expenses are on the CWI income statement. If you look at it, we paid in U.S. dollars for the engines to be made. We've got payments to Cummins for the international distribution services and for a good chunk of our employees.

So, if you look at the revenue and expenses in U.S. dollars, it's quite a different picture than if you translated the topline into Canadian dollars. But at the bottom line, it actually looks pretty good because our obligation to pay warranty is also in U.S. dollars. So it's a little misleading when we translated everything into Canadian and then try and compare it year to year, because foreign exchange does distort the topline. The net effect at the bottom line has been healthy for us.

And we don't see any real need to hedge, because we are naturally hedged with our expenses and our revenue both coming in in U.S. dollars on the CWI side. As we get more international, there may be more currency issues that we need to deal with. But for now, we're comfortable with our (multiple speakers)

And I think from an accounting perspective, where it might get confusing is, for instance, in CWI's revenue. I mean, on a U.S. dollar basis, their revenues were -- did not see increase -- the flat revenues were actually flat. But when you translate that into Canadian dollars, you see a decrease there, which is not indicative of how they actually performed operationally.

So you are into vagaries of currency and somewhat.

It's a bit of an accounting and reporting issue (multiple speakers) other than a business issue.

So I noticed your warranty liability decreased by $1 million. Any explanation for that?

The warranty? Well, CWI had a good year with their product reliability. We made some adjustments to the warranty accruals, and also just in terms of the warranty, you will see it fluctuate depending on how many engines were shipped, what the claims were in the year, and also with foreign exchange.

But the warranties -- basically refresh my memory -- but basically, warranty is a decreasing for the life of the engine, is that correct?

It's two years. But don't forget that as you sell new engines, you throw them in at the top of the pile, so you've got to work it off over two years when we pay the actual claims. Now, what's been happening is that the claims that we've been seeing for engines that are coming off warranty are much less than the reserve we put aside. So that's allowing us to (multiple speakers)

Recapture that money.

Yes. So when we recapture that money and we put aside -- actually, we typically don't, really. But what it is allowing us to do is decrease the size of the pool as we sell new engines, because our expectation is that as these engines are getting much more reliable, we don't need to put away as much cash to cover warranty possibilities.

So the net result of all this is that we're able to do two things. We're able to reduce prices to customers, because, you know, customers have to pay for this warranty. And we're also able to increase margins. So some combination of those two things is what CWI has been doing as reliability has improved so dramatically over the last couple of years.

Mike, can I ask you a question about EDL of Australia?

Sure.

That seems like a rather significant potential there, because does it not open up the use by other people other than Cummins of the system?

That's an interesting new initiative and again, it kind of gets back to the point Elaine was making answering Sara's question on burn rate, which is we expect some opportunities to grow the topline on the revenue side. So if we look at EDL out of Australia, we've announced a memorandum of understanding to explore opportunities around heavier engines -- mine trucks, for example. And you're right, Bob, it does open up some new markets for Westport. It opens up, for example, the whole mining sector. It opens up retrofit markets, which we haven't previously been looking at. And it does, to your point, open up possibilities outside of, I might say in addition to, Cummins. It could include a retrofit activities on Cummins engines, but it could also include activities on other people's engines. So you're correct.

Such as Caterpillar and Komatsu?

Exactly.

One other question, and then Brian would like to ask one. And this is do, and it's fairly contentious on the Internet. That's to do with the restructuring of your options, Elaine. Could you comment on why and how that was done and what the factors are in redoing that?

Are you talking about the change in accounting for the stock options?

Yes. And the ones that were announced -- the vesting of them and the performance forms?

I'll talk a little bit about the change in accounting. That was strictly a change of accounting policy that arose out of requirements coming out of the CIC handbook. We adopted that retroactively, without restatement. So we took numbers that you would've seen in the notes to our financial statements in previous years and put that into our retained earnings line as of April 1, 2004. For the year -- for the fiscal year 2005, we expensed our stock options, and we've always expensed our PSUs. Where you can see that most easily is probably on the statement of changes, where we have a line item -- where we reconcile our non-cash items, probably, but you just wait and see that number. And we of course use Black-Scholes to calculate the stock option expense.

So it's the usual five years?

The options are set up for the usual eight-year period, actually, in terms of tenure for the options. You mentioned vesting also, but I'm not sure precisely what your question on vesting was. But one thing we did which was new this time with the new executive options was to place essentially a long-term hold on exercise of those options by executives requiring a hold for five years to (multiple speakers)

Okay, yes, yes.

To commit our senior team to the Company for an extended period of time.

So you've got some little handcuffs on you?

Exactly.

Brian would like to ask a question now.

Two questions. First is in the past, I recollect one of the areas that Westport was targeting for growth was refuse. And I wonder if there's any progress on that. Second question would be on Isuzu, just so we can get some sense as to realistic expectations, what sort of time frame could we be looking at on more major commitment? And are there any milestones that we would expect to see in between?

I'll start, Brian. It's David. And Guan, you can jump in if you want. On the refuse side, it's gone well, and we're now engineered -- Cummins Westport is engineered into all of the refuse truck manufacturers in North America except one. And in Europe, of course, that's the big market with Renault is being the refuse business. So I'd say we're well-positioned, but the problem for us is that the key market for refuse has traditionally been Southern California. And as in our heavy truck program, the Supreme Court decision a year ago that threw out the fleet rules that Southern California had brought in has really stalled that whole market while everyone waits to see what happens with the litigation and where things move.

So people are not really buying anything until they see how this shakes out. As Guan said, we're expecting that now that another court has ruled that fleet rules are legitimate and legal, we're expecting that market to pick back up again. But it's just a situation where everybody is waiting to see what the courts say about the regulations. Then that result of this is that we've got half the customers who are seeing some pretty nice financial benefits as well as the environmental benefits. So as time goes on, we expect that's going to be a market that is a lot higher penetration rate than it does today.

In the case of Isuzu, I might comment on that. This is Mike. I mentioned that we just passed -- you were asking about milestones. We just passed one milestone last week, with the shipment of the next prototype vehicle to Japan. We're due to have one additional vehicle milestone yet this year in the early fourth quarter, where we ship the third prototype vehicle.

In terms of milestones, and tracking Isuzu, the next commitments to the program, I would be watching and I would be expecting also during the second half of this year the Isuzu management to review and process around the next steps to it. As I mentioned, they committed $1.5 million Canadian last September sort of to this 12-month program. So we would be looking for the next stage in Isuzu commitment to the program to be occurring in the second half of this year.

I can't say yet what that's likely to be, because they are still in their review process. But we would be disclosing those commitments as they become available and communicated to us.

Just to add to what David has said -- say, for example, in New York City, there was this sort of legislative advice (ph) that we'll get by the year 2010 that's really going to be a certain percentage of the city refuse trucks that's going to be having this natural gas engine. And that is really good opportunity for CWI.

And then simply to expand that, in Asia, generally they started with the transit bus. And we see there's definitely opportunity to have all the refuse truck there to be powered by natural gas. And I'm looking at a few opportunities right now, I won't be able to say that when is it going to realize. But definitely there's going to be a lot of opportunity in Asia.

Mack Whale, Sprout Company.

Elaine, I was just wondering if you could give us the calendar '04 engine count? Was it 1295?

1295, that's right.

So you're now targeting 1500, so about 15.8% growth, is that correct?

Guam, you might want to comment. I think you said in excess of 1500.

Yes, it's -- if you talk about 20%, it's like almost like over 1500, i.e., I can only remember when I did some of calculation at back it was like 1560 -- I mean, that is some numbers. But I say it's over 1500.

Okay, so just to clarify then, I'm just looking at the transcript from last August, and the goal was 20% growth in '05 to 1500 engines. So it's basically now the same target, but for calendar '05?

Calendar '05.

Okay. So no growth there really from your -- in terms of your estimates. You're just basically saying it's about what -- like this time last year, it was about the same sort of growth. The environment looks about the same?

I don't think that's true. And that's not what Guan said. Okay? (multiple speakers) We've seen more than 20% growth over last calendar year, but we're not giving any further detail in that.

Okay, but it's on shipments, right? And not revenue?

Right. Sorry, sorry, that's revenue.

Oh, that's revenue growth? In U.S. or Canadian dollars?

U.S. dollars.

U.S. dollars, okay. Now the per-engine revenue looks like it was a little down, I guess 18,000 per engine, on average. That's a little bit down from the quarter before. Is that mostly just reducing -- is that mix or is it the -- is it mostly mix or is it mostly U.S. dollar?

The fourth quarter was mostly mix.

I think if you look at the numbers, Guan said that 200 of the engines were Beijing B's, which of course is a lower price point. But we also started to ship the L's, which are a higher price point. So it's just mix.

In terms of the -- I think you've mentioned that the right off on Edge didn't really affect your own plans for working with Edge. Now, is there another supplier of Terfenol-D?

Yes.

We also have the -- we have some manufacturing rights for Terfenol-D as well.

But the write-down shouldn't affect your own internal commercialization goals?

No, there's no change in Edge's business. It's just a change in our view of the value of holding that investment. We're trying to be conservative in where their -- in what those shares should be valued at. So if their business is unchanged, then our business relationship with them is unchanged.

And to your point, Mack, our operating technical program continues as before, working with the Edge Terfenol capabilities primarily involved in our Isuzu program, as you know.

Okay, that's good. Just looking now on the consolidation of CWI. Now, 50% of the net income -- it wasn't split 50-50. Can you explain why it was about only about 37%, I think, went to Cummins?

There were some minor adjustments that flowed through Q4 that really related back to the calendar year 2004. So they weren't material until we could flow them through in the fourth quarter.

But normally, like, if we see next quarter, we would expect 50-50?

Exactly, yes.

And just on the note 15 there on the consolidated statements, it basically says Cummins will share equally in the profits and losses. But in the next sentence, it says, Westport will absorb more than 50% of the expected losses of CWI. So I was kind of wondering two things. What am I not understanding there? What's the apparent contradiction? And then secondly, can you quantify what the expected losses of CWI should -- pertains to?

I think we're going to have to go back to the joint venture agreement as it was written back in December 2003 and what the intent was. In the JV agreement, we were responsible for any profits or losses in the year 2004 -- in the calendar year 2004. So without knowing what was going to happen in the year, we said we will take on that provision in the JV agreement. Effective January 1, 2005, that went 50-50.

So what actually happened was CWI made a small profit in 2004. We never actually had that -- so our share of that profit was roughly about just under $100,000, and we took 100% of that. So, from an overall perspective, Westport has -- you know, if you look at it on an NTV (ph) basis, there was variability in that 2004 year. Going forward from January 1, 2005 onward, you're looking at a 50-50 economic split between Cummins and Westport.

Okay, so there's not -- because it just seems confusing the way it's written, because it says that you will absorb more than 50% of the losses. So I'm just trying to figure out whether there is some sort of -- if there's a loss, you absorb it, but if it's a profit, you split it.

Well, that's not -- we'll take a look at that wording for next year in our next quarter. But that's not -- on an overall basis, if there had been a loss in 2004, then yes, we would have absorbed that. But, going forward, it's a straight 50-50.

Okay, that's what I thought. Yes. Okay, that's it. Thanks.

At this time, I will turn the floor back over to the speakers for any closing comments.

Well, we would like to thank everyone for taking the time to listen to our call this morning. We hope we'll see you at our next conference call, when we disclose the results for our next quarter. And again, if you have any questions that follow your more detailed analysis of our disclosure today, please give us a call or e-mail us to our website. Thank you very much and have a great day.

Thank you. This concludes today's teleconference. Please disconnect your line and have a great day.