Westport Fuel Systems Inc (WPRT) 2006 Q4 法說會逐字稿

Good morning, ladies and gentlemen. My name is [Jeanelle], and I will be your conference facilitator today. At this time, I would like to welcome everyone to the Westport fiscal 2006 year-end conference call. All lines have been placed on mute to prevent any background noise. After the speakers', there will be a question-and-answer period. (Operator Instructions).

It is now my pleasure to turn the floor over to your host, [Ryan Thompson], multimedia manager for Westport Innovations. Sir, you may begin.

Thank you, and good morning. Welcome to our fourth-quarter and year-end conference call for fiscal 2006. It is being held to coincide with the disclosure of our financial results. For those who haven't seen the release and the financial statements yet, they can be found on Westport's web site at www.westport.com.

The first part of this call 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 discuss the Company's financials. We will then conclude with Dr. Michael Gallagher, Westport's President and Chief Operating Officer, who will speak to Westport's development programs and operations.

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 or by telephone at 604-718-2046.

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 action, 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, Ryan, and good morning everyone. Our fiscal 2006 closed ahead of plan, and we're confident we're going to see continued strong growth going forward. In a few minutes, I will turn this over to Elaine for her review of the numbers. And of course, Mike will do his traditional review of the product programs. But I wanted to touch briefly on the financial announcements this week, and then give you my own perspectives on the road ahead.

As you've seen, we've significantly strengthened our balance sheet with almost 25 million in new cash. About 14 million of this comes in the form of convertible debt from a strategic financial investor, Perseus, and another 10 million has come through a nondilutive restructuring of our financial assets with the assistance of Matco. As you have read in the press releases, we have upside on both transactions, with further commitments from Perseus if we develop significant opportunities, and our transactions with Matco may well yield more than the 10 million minimum, depending on our success.

Here's some of the highlights in my comments on these transactions. And I'm sure you will have some questions that we will deal with at the end of the call. On the first transaction, we really for the first time in our history welcomed a strategic financial partner to Westport. We have never had anyone with more than 5 or 10% equity share. Traditionally, that has been through the public markets, so it's been volatile. And there's good and bad to that situation. But we have lived with it for ten years. So this is quite a change to bring in a financial partner like Perseus with a major commitment who are planning to roll up the sleeves, join the Board, and help us be successful.

Perseus has made several investments in the energy technology space in the past, including an investment in clean energy, which is our North American fuel infrastructure partner. As a result, we know each other very well. We share the same vision of the future potential of our industry, and I think we're both confident that we're in the right place at the right time.

By its nature, this investment is a long-term one, and Perseus intends to be actively working with us to help build the business over the next five years. We welcome their experience and their support as we move into this exciting period ahead.

The second transaction arose from the internal review of our assets and financial capabilities that we've spoken to you about in previous calls. We partnered with Matco Capital, who have an excellent track record, to create a new financial investment subsidiary that has attractive characteristics for what we're planning to do.

Let me clarify that there's no change in our business plan, and no change in any of the assets that we will be using for that business plan. We're reallocating assets that we don't feel are strategic, and we will be realizing value from them to reallocate to our core business.

To begin with, Matco will be buying a minority interest in a clean Westport subsidiary which, over the next few weeks, we will use as the base for the series of financial transactions that will unlock this value. Matco has guaranteed that our share of the resulting business will be a minimum of $10 million. And of course we hope that number could be considerably higher. We plan of course to monetize this value and use the proceeds for our main business. So we do not see this as a material deviation from our plan. It's just unlocking value.

We turn to the results of the year -- just to step back a bit, three years ago, when we launched the Cummins Westport midrange engine business, which is really our first commercial business with Cummins, we told you that we had two financial goals for that business. We wanted profitability immediately in the first year, and then over the life of the business plan that we put in place then, we wanted to see on average 20% compounded revenue growth in U.S. dollars. We pointed out that the business model would see high leverage on the bottom line because of the relatively low fixed costs in the business, and that therefore, once we hit the breakeven point, additional sales would just increase profit.

We have now seen three full years of performance under this plan. We have done better than we forecast. Over the past three years, we demonstrated a compounded 24% annual topline growth in U.S. dollars which is comfortably above our goal. And now you have seen many quarters of profitability that demonstrate the leverage possible with this business model. Overall, we're satisfied with Cummins Westport's success, and we look forward to continued success with this business.

Looking to Westport overall, our consolidated revenue this year was up 26% to 43.5 million, and our final quarter came in as expected, with a $2 million cash burn -- total for the year around 8.8 million cash burn, which is down substantially from 2005, and dramatically over the past three years.

Now cash burn has been dropping for three reasons. First, we are selling more. Second, we're getting better margins. And third, we're spending less of our own money and more of other people's money on expenses like R&D. This is a simple formula for a successful growth business, and I think you should expect that to continue as well.

Although our CWI business contributes profits to the family, as you know, Westport continues to invest in a number of other business initiatives. On a consolidated business, this means that Westport is not yet profitable. But this is not a static picture. As these initiatives mature, the picture will change. We saw good progress on all fronts last year, and we believe 2007 is going to further demonstrate the potential in these initiatives.

Historically, our two key development programs have been our development of a small, high-speed direct injection with Isuzu targeting their Elf truck platform. This program aims at engines and market segment that is smaller than the smallest engine built by Cummins Westport.

The second program has been to develop an LNG-fueled heavy-duty highway track using engines that will be larger than the largest that is made by Cummins Westport. So as you can see, these new programs are meant to go at new industries and in new markets that we are currently addressing. Both programs made important progress last year.

We also announced a third program -- was underway to develop even larger high-performance engines suitable for off-road mining trucks. You saw last quarter we made a real milestone on the heavy-duty truck product, as we are offering that this year in limited commercial quantities. The market response has been very good. We plan to deliver 50 to 100 trucks this year, and we currently have more good prospects than we have delivery slots. Our focus is now lifting to the larger challenge of higher-volume delivery and support in 2007 and beyond.

You also saw Isuzu step up recently to fully fund the engineering work to be done on that program in 2007. This represents our seventh consecutive milestone contract with Isuzu, and we are quite confident that this program is going well. Mike will update you in more detail on our progress on these initiatives and our new initiatives with EDL.

So as we step back to consider our position, we feel confident we've build a sound foundation for success in the future. We have got a complex business in a global challenging industry. Developing our strategy inevitably takes time, patience, and continued focus.

And again, I don't want to diverge too much in this call, but remember, there's really three major obstacles to success. First is, there's no demand for natural gas engines, per se, as such. People are buying tracks and buses so they can do a job. And if it just happens that a truck or a bus with a natural gas engine can do the job better at a lower cost, then we may be in business. But there's no one that's really out there just wanting to buy our products, per se, so they can put it on a shelf. So the challenge first is that we have to show people in a demanding operation that we can successfully meet their business needs, and perform the job, and do it cheaper and better than the alternative.

Now from a practical viewpoint, that means we have to find the relatively few prospective customers who are interested in new ideas and willing to take risks with an innovative product. We have to make sure that when they try it, that their needs are completely satisfied, and then we have to transition to show other more skeptical and risk-averse customers that that solution might work for them too.

We have to recognize that there are big differences between the many market segments we're working. There are differences of course between truck buyers and bus buyers, and there's differences between bus buyers in California and in Canada or in China, for that matter. So each segment has its own challenges.

But there are three themes you can use to track our market development progress. First, as we have told you in the past, we can't do this market development work on our own. We have to develop the many business alliances that are necessary for success in each new market segment. We need vehicle production and distribution partners. We need infrastructure and fuel partners. And we need government and industry support.

Once we identify the best partners, we need to negotiate each partner's own responsibilities and the relative investment, both cash and corporate resources, and their share of the returns. We need to develop an appropriate business plan for the partnership, and we need to have customer support plans. And then once the alliance is up and operating, we need to have an effective management process in place to both monitor and deliver the business plan, and also to opportunistically develop any new conditions that might appear. As you would expect, inevitably, there are differences in opinion between partnerships about these new priorities and how we should exploit them.

So this is a complex business plan, but it is essential as we look at this very large industry worldwide. I hope that you can see and recognize that we've been busy and successful in this area over the past few years, and this is just going to accelerate.

The second obstacle for any new entrant in this industry is to establish a competitive cost base, despite the fact that these are inevitably low manufacturing volumes with new products. We have to compete directly with conventional gasoline and diesel products that have been produced in the millions for years.

This process of developing a competitive cost base simply takes time, focus, creativity, and really continuous engineering development work. It takes time to improve reliability. We have to develop appropriate supply chain relationships. We have to work the costs of the system through a repetitive process of just continuing to get better and better at what we do.

In our case, we are fortunate because we can deliver fuel cost savings with natural gas that offsets some of our other costs. This delivers an economic benefit to customers overall. Other alternative fuels, including ethanol and biodiesel, which we've heard so much about recently, simply can't compete on an economic basis. It should be obvious to you that we have made great progress on this over the last few years too.

And finally, even if we have established appropriate alliances to develop the markets, and if we haven't solved the product economics problem, we still need to develop a receptive, broad marketplace. This is a tough industry, and natural gas is still seen as a new idea as a transportation fuel, despite the fact that it has been available in many markets for more than a decade.

But a major new idea always takes time and consistent focus before it can be adopted on a large scale. We're just passing the first phase now in some of our core markets, and in others, we're just getting started. This is a slow process, but we believe it is a sure process, and over time, this could be a very large industry. We believe we're positioned now to be able to deliver good solutions in volume to many customers around the world.

Natural gas engines and vehicles are still very much a niche market, so we have to continue our work to develop new markets by working with existing partners and with new partners, with governments and with leading fleet customers, and by continuing our work to reduce the overall lifecycle cost and increase the overall solution benefits for our customers in key markets.

The environmental benefits of natural gas vehicles are incontestable, and even more important now than we were when we started a decade ago. And our work on total lifecycle costs shows that we've make great progress. With sustained high oil prices and currently low natural gas prices, we can demonstrate an economic benefit to more and more customers.

As we work to develop our higher global production volumes and the related production costs, we expect that we will be helped further by the fact that conventional diesel vehicles face significant cost increases to comply with the tough global emissions standards and with the higher cost of diesel fuel. So we think the gap is already wide, and will widen over the next few years, and therefore, we're confident that we will do very well.

So we're pleased with the quarter. We're pleased with our progress last year and over the past three years, and our position, as we look ahead, we feel is quite strong. We're pursuing many opportunities that are open only to Westport because of our unique technologies, our alliances, and our market position.

Now I'm just going to close with a short comment on disclosure policies and practices. We've had a number of questions over the past few quarters, and just to be clear, we regularly review our financial disclosure policies, and thought it might be appropriate to touch on this today.

First, we don't announce product shipments. We really never have. In other words, we wouldn't announce something in a press release that's going to be included in revenues that we [report] during the current period or the next period. We also don't announce every sale or every contract award that might lead to future revenue.

Our filter is materiality. We're looking for something that we think is material news, and that's why you do not see a press release every time we make a sale. If a material contract or a material sale is awarded, we will issue a Westport press release.

Now as sales have been increasing and the quarterly volumes have been rising, the perception of what makes something material has shifted. So going forward, we have concluded that we're going to report individual contracts only if they have a financial value of more than $5 million, or alternatively, they represent a significant new line of business that could be seen as something of a surprise.

We will of course continue to provide detailed quarterly reconciliations of our financial performance. Our aim here is not to withhold information from our shareholders. It is just important that we make sure that shareholders know that when there is news, it's important news. And if we announce a sale, it's something that is a material portion of our revenue.

So a recent example would be our order in March -- Cummins Westport's announcement that they had sold 278 engines for Russian buses. The reason we felt this was material is that it met our financial criteria. It's a significant financial order. It's also an order from a region where we have historically not been selling, and as a result, represented a material sale. But we would not expect that you're going to see a substantial number of these announcements. By definition, if it is material, you're only going to see a few of them in a year.

Now we or Cummins Westport or any of our other ventures may still make press releases around marketing events or new alliances or products or other information that might be interesting, but not financially material. We do not classify these as financial releases. They may not be disclosed through formal press release channels. Check the web sites for Westport and Cummins Westport for updates. And if you're interested, sign up for our e-mail hotlist if you want to see this material. If you have any questions regarding our disclosure practices or our policy, please contact Jonathan Burke, who is our Director of Investor Relations.

So in closing, I would like to say we had a good year in 2006, but our attention is clearly focused on the future, and we're confident that we're on the right track. I'll turn the floor over to Elaine to take you through the financials.

Thanks, David, and good morning everyone. The press release, financial statement, and management's discussion and analysis issued today provide a considerable amount of detail regarding our financial results. So I will spend my time this morning discussing some of the more important highlights from our fourth quarter and fiscal year ended March 31, 2006. If you have not had a chance to review them, our audited annual financial statements, MD&A, and press release can be found on our web site at www.westport.com.

Comparing our fiscal year 2006 to fiscal 2005, we have continued to maintain our momentum on our path towards profitability. For fiscal 2006, our consolidated revenues increased 26% to $43.6 million compared to $34.4 million for fiscal 2005, and net loss improved by 36% from $26.6 dollars or $0.38 per share, down to $16.9 million or $0.23 per share.

Increased revenue translated into $14.9 million in gross margin for the year ended March 31, 2006, or 34% of total revenues, compared to $10.7 million in 2005 or 31% of total revenue. Product gross margin percentages improved with lower estimated warranty costs associated with improved product reliability, and customer application [of] product mix offsetting a decrease of parts gross margin percentage. Total parts revenue and total margin increased, but the increase was attributable to lower percentage margin units. Because CWI leverages Cummins' facilities and distribution channels, most of the increased gross margin of $3 million dropped directly to CWI's bottom line.

In 2006, we also maintained our dedication to reducing cash burn. We increased government funding by $2.7 million, and decreased net R&D by $1.5 million, while continuing our development programs. We also reallocated resources from G&A to sales and marketing to focus on market development.

Cash used in operations before changes in working capital was $8.7 million, down from $13.6 million in fiscal year 2005. Cash and short-term investments as of March 31, 2006 totaled $7.8 million.

Subsequent to March 31, 2006, as David has already discussed, we entered into two separate transactions to position ourselves for the commercialization of our products in key markets around the world and for working capital purposes. We secured a strategic investment from Perseus LLC, and announced a nondilutive reorganization and partial sale of one of our subsidiaries, Westport Research, Inc., thereby improving our cash, access to cash, and working capital positions by up to $32 million. While we are pleased to have strengthened our balance sheet considerably, we do not intend to increase our operating expenses or to move off of our path to profitability.

The first tranche of the Perseus funding of $[13.8] million is earmarked for the commercial launch activities for HPDI trucks in North America, such as the buildup of inventories and infrastructure, our share of product and market developments of LNG engine applications for Australia, market developments, and general working capital requirements.

The second tranche of $8.3 million, which is subject to shareholder approval, is intended to fund new business opportunities that provide superior returns but which, having been capital constrained, we have not [pinned to our basis as planned]. Specific ventures have not yet been determined.

The $10 million or more from Matco will be set aside for strategic purchases, to allow us to react more quickly to opportunities as they arise, and allowing us to negotiate from a stronger financial position with a healthier balance sheet. It also unlocks shareholder value that may not have otherwise been evident, as we're able to sell a minority interest in one of our wholly-owned subsidiaries for at least $10 million, and share with Matco on the upside in any new [profitable] ventures combined with Westport Research, Inc. There will be no impact to the Westport Innovations share structure, to our business, or to Cummins Westport as a result of this transaction.

With the Perseus transaction, the first tranche principal is convertible into 10.6 million shares, with [2.7] million warrants associated with it. The second tranche principal is convertible into 5.9 million shares, with 1.5 million warrants. We currently have 74.7 million shares outstanding today. If the first and second tranches are fully converted, we would have approximately 95 million shares outstanding not fully diluted. The number of shares issued as a result of interest payments will depend on whether or not the interest is payable -- is paid in shares and additional notes or in cash, and what the future share price is.

In addition to [natural] strength, Perseus bring significant experience in the financial technology sectors, and experience in commercializing products.

In order to achieve our path to profitability targets, we need to complete the business development initiatives that are currently underway and to begin to realize revenues from non-CWI sources. Our plan is to continue to support CWI to grow its business, profits, and marketshare, while also developing multiple additional revenue streams in the near future.

As Mike will speak to next, we are working very hard to close deals with BTIC and EDL and to deploy larger-scale HPDI trucks in key markets. Now over to Mike for details on our operations.

Thank you, Elaine, and good morning, everyone. It is my pleasure to provide you with an update on our commercialization efforts here at Westport. As you know, our efforts have been focused on making the all-important transition from a research and development company to a commercial, customer-focused product and service delivery company.

First, I want to discuss where we are at with HPDI heavy duty trucks. On our last call, I mentioned some of the opportunities and customers we were actively pursuing for HPDI in Southern California. We then announced at the end of March that we have received California Air Resources Board -- that's CARB -- certification of the HPDI LNG system for the 2006 Cummins ISX engine. We subsequently received EPA certification as well in April, and we now have a 2006 road-ready product for targeted fleet customers in California.

Our efforts leading up to and following CARB certification have been aimed at getting to target customers; demonstrating what HPDI LNG engines and trucks can do for them, both environmentally and economically; and finally, showing them the product itself.

As part of that effort, we recently completed a three-week tour of the truck through Arizona, Texas, and Southern and Central California. The tour was meant to give customers an opportunity to kick the tires and also experience the strength of the HPDI heavy-duty.

I can tell you that the truck performed great, and the tour was a resounding success. In addition to meeting key stakeholder groups and governments and customer fleets, we also received a very warm welcome in front of the entire board of the Port of Los Angeles, where we see HPDI heavy-duty trucks playing a very important role in reducing the Port's air emissions. Their five-year clean air plan for achieving this, along with the Port of Long Beach, is due to go public in two weeks.

In order to deliver HPDI in commercial quantities, we have also spent much effort and time on ensuring that a robust supply chain -- that's the tanks, injectors, pumps, etc. -- was established. So BTIC and LNG tanks from China, for example, and other pending relationships are opportunities for us to profit from our development work on the entire HPDI system. I can report that we are well prepared, both operationally and logistically, to handle the expected commercial demand for our HPDI heavy-duty systems.

Regarding Isuzu, we recently received a new engineering truck from Japan which we will be operating and testing in and around Vancouver to ensure that we meet our mutual goals for 2006, which involve further improving the truck and engine fuel efficiency by 25% and further reducing emissions as well. We are also continuing to advanced discussions aimed at creating longer-term commercial agreements between ourselves and Isuzu.

We continue to advance the negotiations with energy developments limited to commercialize our HPDI technology as a retrofit for diesel mine trucks in Australia as well as worldwide. I'm confident that an agreement can be reached and that this venture will go live. As a reminder, mine trucks burn over $1 million a year in diesel fuel at today's prices, creating a huge economic incentive for this program. Our LNG HPDI system becomes ever more appealing as the diesel and oil prices continue to rise, especially in view of the last six months when oil prices have risen while natural gas prices have fallen.

Looking at all of this together, it is clear that our business model is strong and it is working. As David and Elaine have mentioned, our cash burn is down 36%, and our revenue is up 26% from fiscal '05. And over the past three years, our revenue is up 77%, and our cash burn is down 78%.

Looking forward to fiscal 2007, we now expect the efforts of our team over the past several years to start yielding commercial results. I would expect those results to include our first sales of HPDI trucks into California, the expansion and diversification of our revenue streams through key supply and joint venture agreements, and advancing our key technology development programs toward commercialization.

We remain confident in our strategy, our business plan for fiscal 2007, and our ability to execute and deliver results. So with that, I would like to turn it back to Ryan and open it up for questions from the conference call participants.

Thank you, Mike. We have now completed the formal remarks on the call, and are ready to take any questions that you may have. (multiple speakers) Operator, can you please queue any questions?

(Operator Instructions) Bob Wallace, Raymond James.

Several questions. First of all, Mike (technical difficulty) talk about some potential orders in South California. I noticed in South California Air Resource Board in their minutes of June 22nd brought up and specifically mentioned Westport Innovations, Inc., as to a [grant] of $2 million to be spread over the purchase of some trucks [or] some engines. Is that correct?

Yes, that is correct. It was at the last monthly regular board meeting in the South Coast Air District. And as you and the other listeners know, over the past several years, South Coast has been one of our biggest supporters on the heavy-duty program.

So last month, South Coast has authorized $2 million to Westport. It was on a sole-source basis based on our technology. And the 2 million will go toward the early purchase and deployment of our LNG trucks. And in fact, they have set aside $50,000 per truck, so that would buy or incentivize the purchase of 40 trucks over the next 12 months as part of our commercial deployment program.

The follow-up question is -- or point is whether or not that it covers the [increase] of the actual extra cost with an HPDI engine over a regular diesel engine -- I don't believe it does. But where would the balance of the incentive come from to cover that extra cost?

That's right, Bob. That 50,000 will cover a little over 60% of the incremental cost of our engine relative to the standard diesel engine. And we would expect to pick up the remainder of that incremental cost from the federal incentives that are now available in the United States from last year's passage of the U.S. Energy Bill in August, which offers just under $30,000 per truck for natural gas trucks. So between those two amounts, the 50,000 from South Coast and the 28,800 from the U.S., that covers virtually the entire incremental cost of our engine, and then all of the savings on fuel costs with the lower natural gas prices would essentially be gravy to the customer.

Is there is a sufficiently large fueling station, or are there multiple of these to facilitate this and larger amounts of vehicles?

I think that's going to play out pretty nicely. And this is where our interest and relationship with Clean Energy in Seal Beach, California comes in handy. They're the largest provider in North America for CNG and LNG refueling stations. So they have some existing capacity to handle the early rollout, and are gearing up to expand their fueling capacity to match our demand on trucks.

Now you have about 8% of Clean Energy -- is that correct still after this deal? [After you] --

That sounds about right, David.

That's about right, Bob.

Okay. And would -- I understand T. Boone Pickens made a speech recently in which he indicated that that may turn public.

I saw that -- just two days ago, I think.

Any comment?

(multiple speakers) No, I don't think so, Bob. I mean, you have read the press reports.

Okay, what is the area of your line of credit at the present time? Since you've got all this money, is your line of credit about the same?

We have a $13 million line of credit with the CIBC. That has been changed. We have drawn down about $2.5 million of that $13 million line.

David, the [grievance] -- in China on the tanks -- is that going to impact on a major amount of the cost of the tanks, which would therefore reduce that $88,000 cost of HPDI?

Yes, I realize I was pretty high level in my remarks, Bob. But you have followed it long enough that you know what we're trying to do.

If we're going to reduce costs, we have to look at every component in the system. And we don't really have that many components. We changed fuel injectors, we've got some engine controls. There's some pressure regulators and management systems and tubing. But the major cost historically has been fuel storage, for both CNG and LNG, but LNG in particular. So LNG tanks and fuel storage have ended up being almost the price of an engine, which seems a little extreme.

So we've been working for several years on trying to reduce the cost. We have also had a big focus on improving the integration of the system and improving the overall solution for customers. So to do that, you have to engineer the fuel storage with the engine and the vehicle.

So that's why we have ended up with our partnership with BTIC. We think that's going to deliver both a better product and a better integrated product for our HPDI system, as well as reducing cost. And also, it's a new business. We're going to be selling LNG tanks.

Can you quantify that cost reduction?

Well, I don't think we should comment yet on cost, Bob. I think you will see that in our gross margins going forward. And we'll let you know. But I think the experience in other people moving production to China has been large double-digit reductions in cost is the goal, and I think we will achieve that.

On the overall cost, I might just add, Dave, that's the BTIC component. But I think we're saying that $80,000 is the system cost for the first early deployment -- 50, 100, couple hundred trucks. But we're obviously aiming for reductions in that $80,000 as those volumes rise, whether it be from the tank component [of] the pumps or the volumes of other fuel-related costs.

So basically, you're taking this money that you're getting in to build some engines to sell to get a margin on the engines. But part of that is in the -- would be -- I believe you've said before that on warranty -- set aside warranty amounts, there must be some income coming in from the warranties that have been outstanding. Is that true, Elaine?

On the Cummins Westport side, what we do is we set up the warranty accrual when we sell the engine. Over time, what we've found is the warranty claims have been lower than the accruals that we originally estimated. So we've been bringing down our warranty accruals and changing our warranty estimates accordingly.

Do you bring that into income?

Yes, we do -- it flows through cost of goods sold.

Mac Whale, Sprott Securities.

I just wanted to go over the dilution from the Perseus investment -- on the notes themselves, 16.55 million in shares -- is that correct on just the note -- the conversion?

That's right. The first tranche is 10.6 million shares. On the second tranche, it would be the [5 point million] shares.

Okay, and then there's another -- as long as they remain outstanding, it would likely be paid off -- the interest would be paid off in shares or notes. So that would be another 1.325 a year?

For the first two years, that is right. The interest payable in shares will depend on the future share price.

Right -- after two years?

No, in the first two years, we can pay interest in shares as well.

Oh, okay.

-- first two years, we can pay in shares or in additional notes.

And then the warrant -- that adds up to another 4.14?

That's right. I have got 2.7 million on the first tranche, and 1.5 on the second tranche, so that's [your] 4.2.

Okay, I just wanted to make sure I had that right.

In terms of Matco, can you describe what sort of assets and personnel will actually be left in there? Because in order to evaluate, we kind of need some idea of what you're actually doing there.

Yes, with the Matco deal, what we're going to do with Westford Research, which is currently a wholly-owned subsidiary, is we are going to strip out all of the assets and liabilities to create a very clean investment vehicle. So the only thing left in Westford Research will be some [tax tools].

We and Matco will then go out and look for a profitable business to put into Westford Research. And then that business at some point would be spun out again, likely through an IPO. If you want a good example of this, Matco did a similar deal with Denison Mines and Calfrac Well Services a couple of years ago. That's very well documented. And if you Google it, you will be able to see it on the website.

Okay, so can you take us through your noncapital tax loss carryforwards, your unclaimed R&D expenses, and your investment [type credit] so we know what's left for Westport to use if you ever do get profitable?

We're keeping those tax losses in Cummins Westport. So Cummins Westport is untouched -- there's about $41 million in tax losses there. We have not completed the restructuring of Westport Research, so I don't want comment today as to what might be left. In total, we have about $175 million in tax losses. If you back out the 41 million for Cummins Westport, there's about 130 million in research and innovations in some of the other subsidiaries.

So should we just be thinking that you could have -- that total difference could end up finding its way into Westport Research?

Could you repeat that one, Mac?

Well, I'm just trying to figure out -- are you going to put in the balance of that into Westport research then? Is that what -- the tax pool you're going to be using to buy up businesses -- will it be the 1 30?

It will be whatever tax pools are in Westport Research. There are other losses as well, as I said, in Westport Innovations that will be untouched, and other losses in Cummins Westport that will be untouched.

Okay. So when we model out, most analysts would be expecting you not to be -- Westport not paying tax for a while. I'm just trying to get an idea of when we build out our model, should we be fully taxing Westport as soon as you start making positive earnings?

If you look at the way we've structured our businesses in the past with Cummins Westport and with the BTIC joint venture, generally speaking, those entities themselves have operating income and losses within their own corporate structure. So Cummins Westport -- to the extent they're profitable today, they have $41 million in tax losses to shield that. BTIC will be taxable in China before we can bring anything back into Canada for shielding purposes.

It will depend on how we structure our deals going forward. We will keep tax losses to shield some income in Canada. But again, how much of that's usable will depend on how these transactions are structured going forward.

And of the 10 million that they are contributing -- is that available for Westport to use, or only Westport Research, Inc.?

That's to Westport Innovations.

Okay. So that is for the 45% share of the tax pool essentially?

Yes. It's a combination. It's for the whole transaction, but there is a guaranteed amount, a minimum amount that we will receive on closing.

Okay. And then, Mike, I'm just trying to get an idea of actually the performance of the various sales channels. Can you go through how many sales of engines through Dongfeng in China and through Cummins India -- just trying to get an idea of how the uptake is working with those local manufacturing initiatives?

Actually, we have got Guan on the line, I think, for Q&A. And Guan, you're probably better positioned to talk about China, India local manufacture, uptake, etc.

This is Guan. For Cummins Westport in terms of our local manufacturing in India and China, as you know, that in China we are using Dongfeng for local manufacturing. And we expect that the first batch of engines, which is really about 20 of those engines, to be released sometime in the middle of this month. And then we get (indiscernible) further big orders from Dongfeng. As you know, that when the supply chain need to be [filled] up, and Dongfeng Cummins is expecting quite good sales in terms of [get a] localized natural gas engine.

And then in terms of India we have sold about 50 of those production kits to India. And they are tenders for the [tranching process] in India. And as we expect it, (indiscernible) the volume will be quite substantial. And we are in the process of (indiscernible) OEM in terms of our natural gas (indiscernible) process in India.

Okay, that is helpful. And just lastly, I think you touched on the LNG tanks -- how about an update on the -- it's pronounced Weichai Power Company -- that initiative?

On the LNG tank initiative, Mac?

I'm sorry -- I was thinking of the -- maybe I've mixed them up. I think it's is Weichai Power Company -- I think you have an initiative with them. Is it on the LNG tanks as well?

Well, yes, we've got a couple of different things going on in China on the Westport side. Just briefly on the LNG tank side, that is BTIC -- Beijing Tianhai Industrial Corp. -- in Beijing, a tank manufacturer. We have a letter of intent that we have released a couple of months ago suggesting that we would like to do a joint venture to design, develop, market, and sell LNG tanks worldwide. And so that's one initiative.

That is different as you suggest from Weichai, where we have got a memorandum of understanding out there, and ongoing discussions around engines and engine programs in China, heavy-duty trucks, etc. -- those discussions are, I would say, maybe a bit less far advanced than the LNG tank discussions, but ongoing. Anything you want to add to that, Dave, on the Weichai side?

No, I think there is -- as I think should be obvious from the traffic over the last 12 months or so, there's lots of activity in China. It is a huge industry. They have got big energy security problems. They have got big environmental problems, and they just got they're first load cargo of LNG at the end of last month. So there's a lot of interest in using LNG as a vehicle fuel, so as a result, the automotive industry is quite keen to talk.

But as we have seen in the past, these programs take a long time to reach maturity and get products to market. So we are still in the development mode.

Dave will actually be there in two weeks -- speak for you, Dave -- in [Shenzen] to help dedicate and celebrate the opening of this first-ever LNG terminal in China, which Dave says has just taken its first delivery of fuel.

(Operator Instructions). [Stewart Myers], [Cregor].

Good morning, gentlemen. I am in New York City. I know that a lot of your effort is focused on the West Coast.

The question I have is this -- with all of the truck activity -- and I'm in that business, focused in and around the New York metropolitan area -- what you doing to overcome the reluctance of the primarily the City of New York to allow LNG activity in the immediate area?

As you say, our principal funding incentives at the moment are in fact being driven out of California, with the South Coast air district, the Port of L.A. and others offering significant monies for new truck deployment. So you are right that our primary focus has been where the main opportunity has been.

But I would say that we are also active on the East Coast. We're active in some New York region natural gas vehicle industry groups, attempting to do what we can to tell the story and at least get the word out around the growing economic benefits around natural gas versus these [wholly] environmental benefits, etc. But we would expect that to take sometime as we discussed that in regions where the financial incentives are less significant. Guan, I don't know if from your side whether you want to say anything about the CWI business in the eastern United States and the market opportunity.

Yes, Stewart, in terms of really the New York metropolitan area, what we are pushing right now is that first of all, our natural gas engine has a lower emissions. And then the second thing is that are getting economic benefits in terms of getting lifecycle costs -- [lower] than the new products that we're having.

And so what we're doing right now is we are really to [push] getting the New York authorities in terms of benefits, especially the lifecycle costs using natural gas. And liquefied natural gas and [converting to] natural gas and then (indiscernible) natural gas engine -- that will very similar in terms of [liquid] conversion. So we're pushing emissions, and also the LCC, or lifecycle cost benefits, that we are doing currently right now with the New York authorities.

One follow up -- as part of the benefits of using your product, has anyone evaluated whether or not you can take advantage of the NYMEX emission futures our some of the other futures instruments that are possibly available to people who convert over and are eliminating emissions?

I would just say generically that Guan and his people, as we do on the truck side, we take the federal incentives that are available from the U.S. Energy Bill, which also a fuel credit, by the way, which I did not mention earlier. And then we try to match them and piggyback them onto any local incentives that may be available, whether it is New York City or New York State or California or Canada or wherever. So it is part of our standard approach to looking at the lifecycle cost benefits is to try to get as good a picture as we can as to how they play out in the local market.

Well, you've got enormous market potential here. I was talking to a large fleet manager yesterday who was in the process of converting some trucks over to CNG. (MULTIPLE SPEAKERS) I'm a believer.

We look forward (multiple speakers) that market.

We have no further questions. I would like to turn the floor back over to management.

Thank you very much, everyone, for taking the time to listen our conference call. We hope to see you at our next conference call, which we expect to be in late July with the disclosure of our first-quarter results for fiscal 2007.

Thank you. This does conclude today's Westport conference call. You may disconnect your lines and have a wonderful day.