Ballard Power Systems Inc. Q4 FY2022 Earnings Call

Thank you for your patience. This is the conference operator. Welcome to the Ballard Power Systems Fourth Quarter and Full Year 2022 Results Conference Call. Please note that all participants are in listen-only mode, and the call is being recorded. Following the presentation, there will be a chance for questions. I will now hand the call over to Kate Charlton, Vice President of Investor Relations. Please proceed.

Thank you, operator, and good morning. Welcome to Ballard’s fourth quarter and year-end 2022 financial and operating results conference call. With us on today’s call are Randy MacEwen, Ballard’s CEO, and Paul Dobson, Chief Financial Officer. We will be making forward-looking statements that are based on management’s current expectations, beliefs, and assumptions concerning future events. Actual results could be materially different. Please refer to our most recent annual information form and other public filings for our complete disclaimer and related information. Before we discuss the quarter, I would like to provide an update on our Capital Markets Day. We are pleased to announce that our Capital Markets Day is scheduled for June 13, 2023, in Vancouver and will also be viewable online. We will be providing additional information over the coming months. I’ll now turn the call over to Randy.

Thank you, Kate, and welcome everyone to today’s conference call. With an increasingly constructive policy landscape for hydrogen globally, we are excited by the growing end customer interest to decarbonize mobility and stationary power applications with fuel cells. 2022 proved to be an important year of progress for Ballard, as we achieved key customer platform wins across our verticals of bus, truck, rail and marine, along with early traction in select stationary power applications. This progress is starting to show up in our order backlog. In Q4, we secured new orders totaling $52.2 million. This activity improved our total order backlog, bringing it to approximately $133 million at the end of Q4. As we start 2023, we’re seeing continued momentum on customer order intake. We expect to see further growth in our order backlog at the end of Q1. This strength in our order backlog, as well as a growing sales pipeline reflects progress across all of our verticals. And as a reminder, our strategy to develop PEM fuel cell technologies and products can be applied across multiple market applications, where our fuel cell technology provides the strongest value proposition and where the barriers to hydrogen refueling are lowest. These markets include bus, truck, rail and marine as well as select stationary power generation in off-road markets. We’ll provide a brief update on these applications. Our bus vertical continues to see important progress in Europe and the U.S. In 2022, we received purchase orders for approximately 250 modules for fuel cell buses, including about 100 in Q4. This represents a roughly 25% year-over-year increase in new bus module orders in these markets. These orders included sales from nine European bus customers, of which four are repeat bus customers and five are now new bus OEM relationships. These 250 hydrogen fuel cell powered buses are planned to be deployed across 11 countries over the coming 24 months. This will effectively double the number of fuel cell buses operating in Europe and the U.S., taking the installed base from the current 250 buses in operations to about 500. As we look forward, we expect to see this order momentum continue over the coming year. Through 2022 and into early March 2023, there have been announcements by transit operators in European cities with expected tendering activity for additional 1,000 fuel cell buses to be deployed in Germany, Italy, Poland, Spain, and the UK. We’re also seeing a strengthening of our bus sales pipeline in North America. In 2022, Foothill Transit in the LA area progressed on its procurement of 31 fuel cell buses, representing approximately 10% of its fleet with new flyer supplying the fuel cell buses powered by Ballard. And now for the first time in U.S. history, an American city has indicated plans to deploy more than 100 fuel cell buses. So, this is very, very exciting. We believe we’re well positioned to participate in supporting the rollout of larger fleet deployments of fuel cell buses. Now take a look at the truck market. In September of last year we announced a deeper strategic partnership with Quantron, a global electric vehicle integrator and an emerging specialty OEM to accelerate fuel cell truck adoption. Ballard will serve as exclusive fuel cell supplier to Quantron for their 44-ton fuel cell electric truck platforms. As part of our strategic partnership, Quantron committed to purchase 17 megawatts of modules, which are expected to be delivered over the next two years. Beyond Quantron, we’re seeing increasing interest from other truck integrators and upfitters to use our products in various truck platforms. We are pleased to see a more diverse set of customers’ interest in our products which complement discussions for longer-term supply of modules in heavy-duty truck applications. We see strengthening market signals at the value of hydrogen-powered fuel cell trucks in certain classes and use cases will achieve high volume, given the clear advantages of range, refuel time and payload. There’s also a growing understanding relating to the infrastructure challenges associated with electrification of this market. We look forward to highlighting our insights and the value proposition of fuel cell trucks including the comparative total cost of ownership, which we have a new model for in June at our Capital Markets Day. In the rail market, we ended the year with an exciting announcement of the first commercial-scale order totaling up to 40 megawatts of fuel cell engines from Siemens for passenger commuter rail in Germany. The first 14 fuel cell modules are expected to be delivered on schedule in 2023 for deployment in the Berlin area. In 2022, we saw additional progress in the commuter rail market as we received an initial order from Stadler, the California market. For freight locomotive applications, hydrogen fuel cells have a unique and compelling value proposition as a zero emission, one-to-one replacement to incumbent diesel electric powertrains. With diesel fuel accounting for both the number one operating cost and emissions source, fuel cells offer similar performance for these long heavy trains without requiring overhead catenary infrastructure. While the freight locomotive market is still early, we expect continued progress in 2023, further illustrating the strong value proposition and technology advantages of Ballard’s fuel cell engines. In the marine market, we made important progress in 2022. In Q4, we saw almost 40% quarter-over-quarter backlog growth after receiving an initial order for Fc wave modules from Amogy and an order for containership application. There’s also an important milestone in late 2022 as Norled’s MF Hydra, the world’s first hydrogen-powered ferry is now on water and expected to be put in service later this year. The regulatory environment continues to undergo a change for marine emissions. The current IMO target is to cut maritime CO2 emissions by at least 40% by 2030. And in November, the European CO2 emission trading scheme was extended to apply to the shipping sector, covering all vessels greater than 5,000 tons starting from 2025. Moving to the Stationary Power Generation market. While this market for fuel cells continues to be early stage, we received a key new customer win from CrossWind in the quarter, validating our product for fuel cell power generation from excess wind capacity. Early in 2023, we received a follow-on order from a stationary power customer that has a multiyear relationship with Ballard and we expect to lead to higher volume orders. We continue to see interest from customers in EV charging, backup power for data centers, peaking and shore power applications. In the mining sector, we recently announced an order from First Mode for modules totaling 3 megawatts to power several hybrid hydrogen and battery ultra-class mining haul trucks, which we classify under our emerging markets vertical. In January this year, First Mode entered into a global supply agreement with Anglo American to retrofit over 400 ultra-class haul trucks with our new gen solution, including a 1.2 megawatt of fuel cells per truck. The Ballard fuel cells will be integrated in the next several power plants built by First Mode, and we look forward to a long-term relationship to help drive decarbonization in this difficult to abate sector. As noted earlier, order backlog at the end of the quarter stood at $133 million. Of this, close to $100 million are Power Products orders, which now represent over 70% of the total backlog. Throughout 2022, we’ve seen a steady climb in our Power Products order backlog, which has more than doubled since the end of 2021 and illustrates our success helping customers begin deploying fuel cells at greater numbers. This growth has been masked by the planned and expected backlog decrease in Technology Solutions. Throughout 2022, we also highlighted our increased customer and revenue diversification, demonstrating the value of our regional and applications go-to-market strategy. As compared to Q4 2021, we’ve seen a 20% increase in customers with orders of over $1 million. Now, looking at our key geographic markets. In Europe, there’s a steady flow of news around continued policy support. Indeed, just yesterday, the EU published a raft of new policies supporting hydrogen fuel cells, including the Net-Zero Industry Act. The European Commission has also recently agreed on definitions of renewable hydrogen that we expect will translate into higher levels of confidence for developers of hydrogen production facilities. And notably, over 70% of our 2022 order intake was attributed to Europe. Moving to the U.S. We expect continued demand growth for our technology in the U.S. as previously announced policies such as the IRA, which is really game-changing, materialize over the next 12 to 36 months, particularly as the hydrogen hubs and hydrogen production tax credit programs begin to translate into increased availability of low-cost low-carbon hydrogen for end users. Concurrently, we’ve seen customer interest, order intake and revenue generation all increase from North American customers in the past 12 months. And North America accounted for nearly a quarter of the 2022 total corporate order intake. We made significant progress on the build-out of our previously announced facility in Oregon over the past number of months, and we expect to support the assembly of fuel cell engines for the U.S. market operational in the coming months. Now moving to China. We continue to be disappointed with the delayed adoption in the China market and with low activity levels at the Weichai-Ballard JV, which weighed on our 2022 results. Now, we’re working closely with our Weichai-Ballard JV to unlock growth in the China fuel cell bus and truck markets. And indeed, we’re encouraged with some of the exciting opportunities in the JV sales pipeline for fuel cell buses and trucks. 2022 revenues from China represent one of the smallest proportions of total revenues in recent years, driven by the subdued transport activity resulting from COVID policies and a slow rollout of FCEV subsidies. Despite the short-term pressures, we maintain our expectation that China will be the largest market for the adoption of hydrogen and for fuel cell vehicles in the mid to long term. And our expectations are bolstered by the government’s prioritization of energy security in the 20th Congress, a development expected to drive additional support for renewables and green hydrogen. In 2022, China registered approximately 5,000 new hydrogen fuel cell electric vehicles predominantly located in the initial demonstration clusters of Beijing, including in support of the 2022 Olympics and Shanghai, bringing the total number of fuel cell vehicles on the road in China to over 12,000. This illustrates the relatively modest, by China standards, but continued growth of hydrogen adoption. As at the end of the year, there are now over 200 hydrogen refueling stations in operation in China with an additional 70 under construction. To succeed in China, we’ll require a local presence, a point we spoke at length about in our Q3 earnings call where we provided detail on our plan to make a significant investment to qualify as a local manufacturer of MEAs in China by setting up an MEA manufacturing facility and R&D innovation center in Shanghai. Shifting to our financials in the quarter. In Q4, Ballard delivered $20.5 million in revenue with approximately 70% of our revenue coming from Heavy-Duty Motive applications. This is an increase of roughly 10 points from the prior quarter and demonstrates again the continued progress in our planned evolution into a technology products company. Over the past year, there’s been an increasing shift and change in our revenue mix by geographic markets as compared to 2021. As we discussed on the Q3 call, continued gross margin pressures were partly affected by our pricing strategy to secure customer platform wins. The further downward pressure on gross margins in Q4 was driven by a combination of a shift in revenue mix, higher fixed overhead costs and inventory adjustments. We expect challenging gross margin dynamics to persist into 2024 until our volumes ramp and our production cost reduction initiatives move into real production. Now, in Q4, we recognized post-acquisition restructuring charges and costs related to our BMS acquisition. And there are two high-value activities for BMS going forward that I wanted to highlight. First, we’re using BMS hydrogen fuel cell powertrain integration experience and capabilities to help Ballard customers, typically vehicle OEMs, integrate Ballard fuel cell engines into their heavy-duty platforms by providing engineering support for application engineering, powertrain integration and even in some cases, vehicle integration. We’re also using the BMS capabilities that fuel cell powertrain and integration experience to design a fuel cell controller that will enable optimized hydrogen powertrain solutions with a battery fuel cell hybrid architecture for improved performance, considering safety, reliability, and durability. We’re also looking at improved fuel efficiency, helping overall customer TCO. Consistent with our announced guidance on costs for 2022, total operating expense was $146 million and total CapEx expense, $35 million. We are now updating our guidance for total operating expense and capital expenditures for 2023. We anticipate total operating expense to be between $135 million and $155 million and for capital expenditures between $40 million and $60 million. Given the macroeconomic outlook, and in the context of our 2023 annual operating plan, we continue to review our spend carefully to ensure we’re appropriately investing in our growth strategy while maintaining a strong balance sheet. We ended 2022 with $914 million in cash and no debt. We’re making strong progress against our product cost reduction targets, including our target to reduce our fuel cell stack costs by 70% by 2024. We’re tracking well against this plan, despite inflationary pressures. We’re also confident in our team’s ability to achieve even further cost reductions over the coming few years. Ballard is well positioned with a growing product order backlog, industry-leading fuel cell technology for our market applications, key partnerships and customers across our target markets, industry-leading deployment experience and a strong balance sheet. We’re confident we can deliver long-term shareholder value while making a meaningful impact by providing zero-emission fuel cell power for a sustainable planet. With that, I’ll turn the call back over to the operator for questions.

The first question comes from Aaron MacNeil with TD Cowen.

Randy, for the backlog, I appreciate the split by Power Products and Technology Solutions. I know you’re not going to provide any revenue guidance, but just given that the balance has moved significantly towards product sales, I think it would be helpful to give us all a refresher on what the typical timeline is from order intake to revenue recognition. And on the Technology Solutions side, I was hoping you could give us a sense of how those revenues will trend over the next couple of quarters or years?

Yes, thank you, Aaron. The order intake and delivery time do differ by market segment, but generally, I would describe it as ranging from 3 months to 18 months. Regarding Technology Solutions, I anticipate that this year we will see a smaller share of revenue, both in percentage and absolute dollar terms, for our TS business. This is partly due to the Audi project being largely completed in 2022. We are currently focused on allocating more resources to our product development activities, which is also reflected in our cost structure.

Thanks for that. Paul, of the $135 million to $155 million operating expense guidance you provided, how much is earmarked for R&D? And would you characterize it as elevated in the near term in sort of a final push towards your cost reduction initiatives, or should we view that as more representative of a run rate on a longer-term go-forward basis?

Yes, Aaron. I’d say that what we’ve observed in R&D and our overall operating expenses going forward is generally consistent with what we experienced in 2022. We aim to leverage the investments we've made and anticipate that most of our spending will focus on production and technology investments, as we continue to invest in our products. Overall, this is in line with what we observed in 2022 across all categories.

Yes, Aaron, maybe just to supplement, I wouldn’t characterize this as a final push. What I would say is this is going to be a sustained investment for a period of time. Because not only are we improving performance and driving down costs, we’re working on next-generation technology as well. One of the keys, of course, is that we’re designing and developing stacks, including the MEAs and bipolar plates and modules to be used across multiple verticals. So, while it’s a significant investment, there’s a significant leverage that comes with the business model that we have.

The next question comes from Michael Glen with Raymond James. Please go ahead.

Randy, maybe just to start, when we’re thinking about the investment that you’re going to be making in China, the $130 million MEA facility, when you’re thinking about allocating that capital, given what’s happening in Europe, given how your sales have shifted so much, like if you’re not going to be putting the money in Europe, is there a risk that you’re going to potentially miss some revenue opportunity that’s coming in that market?

Yes. To clarify, while we have MEA production planned in China, it’s not limited to the China market. We can utilize that volume globally, which is part of our strategy. The important question is whether geopolitical factors will impose local production requirements. We have a local-for-local strategy that includes increasing production capabilities in China, Europe, and the U.S. We have seen growing support in Europe and recently in the U.S. for companies aiming to localize hydrogen and fuel cell production. A key concern is whether we will encounter restrictions that necessitate domestic production. For instance, the EU recently announced eight strategic net zero technologies and emphasized the importance of manufacturing capacity to meet over 40% of their hydrogen fuel cell deployment needs. This highlights the potential demand for production capacity in Europe. We have scaled the Phase 1 MEA production facility designed for China but can also use that capacity for global markets. If there is market demand that warrants investment in other regions, we will closely evaluate that in 2023.

Okay. I believe you mentioned that this year in China, there were 5,000 new fuel cell vehicles added to the road. Can you share your market share regarding those additions? Additionally, who is supplying fuel cells in that market?

Yes. You may remember that two groups of cluster regions were announced, with the first group including Beijing, Shanghai, and Guangdong province. Most of the adoption in 2022 occurred in these initial clusters, particularly in Beijing and Shanghai, largely due to the Beijing Olympics. We currently do not have a significant presence in Beijing and Guangdong province, which explains our limited market share in those areas. The second group includes additional clusters and localization efforts in Shanghai, especially in Jiading, which pertains to two of the five cluster regions. Additionally, Weifang, where Weichai is based, is now also part of the cluster region with our Weichai-Ballard joint venture. Overall, I would describe our progress as a gradual rollout of the initial cluster regions, with the Beijing Olympics serving as a strong driver. However, it's important to note that our market share was quite modest in 2022.

The next question comes from Mac Whale with Cormark Securities. Please go ahead.

When you look at the outlook for increasing year-over-year sales given the higher backlog, is the gross margin sort of hit a low point at this point? Like, is there a contribution margin that we should expect from higher revenue, or should your sort of investment in bigger headcount and production capacity sort of outweigh that?

Yes. I think for 2022, we saw clearly signs of that with some of the investments we’ve made in production capacity where the volume hasn’t caught up with that investment yet. We’re going to see that through 2023 as well and into 2024. But I do think when we look at the order backlog activity and the sales pipeline, which is really swelling with a lot of great opportunities and some scale in some of these opportunities, we do see the opportunity to move from contribution margin to gross margin where that fixed overhead cost structure gets absorbed over a larger book of business. It’s going to take some time to move through that. I do think your characterization of gross margins kind of hitting a trough or a low point here is probably directionally accurate. So I do think we’re going to see expansion as we move forward. But I would look for the big leg up in gross margins, particularly as we look at ‘24 with some of that backlog translating to orders and some of our cost reduction initiatives translating to production.

I understand. That clarifies things since we notice the year-over-year difference in the 12-month order book and the backlog. Clearly, there is significant back-end weighting involved. Is that the correct interpretation? I'm curious if we should anticipate larger individual order sizes or more frequent orders. We haven't really experienced substantial orders of 50 or 100 units or any consistency in that regard. What is your perspective on order size?

Yes, I believe the bus market is the most developed among the markets we are examining. We are now observing three different cities in Europe, as well as the first in the U.S., planning to deploy 100 fuel cell buses. While these are not in our order backlog, they are part of our sales pipeline. Looking ahead to 2024, we expect to see some of this translate into our order book and subsequently into revenue. I anticipate larger orders moving forward, along with numerous smaller orders from various customers across different sectors. As we transition from initial demonstration programs to larger deployments, we will see an increase in scale. I also want to emphasize several sectors we are concentrating on, such as rail, marine, and stationary, which have higher power output needs. The off-road market for hauling trucks is another example. In certain instances, like freight locomotives, you may require up to 1.2 megawatts of power, which means you need approximately 12 to 15 buses to meet those power needs. Therefore, as we secure larger orders in marine, stationary, and off-road markets, I expect to see some uneven orders as well.

Thanks Randy. I’ll jump back in the queue.

Yes. Michael, to add to your point about the timing of revenue, I want to emphasize that we are currently in a phase where historically, a larger portion of our revenue tends to occur in the second half of the year. I would estimate that this year, around 70% of our revenue will be generated in the latter half compared to the first half.

The next question comes from Rob Brown with Lake Street Capital Markets. Please go ahead.

On the kind of the drivers for the bus market momentum, is it really that market maturing, or are there other sorts of drivers causing the order growth?

I believe there are a few factors at play, Rob. First, we have had demonstration programs running for several years, and customers have now experienced the technology directly. They have seen the uptime, availability, and reliability, which has boosted their confidence to expand from a small number of buses to deploying a larger portion of their fleet. This is a very positive indicator. Additionally, many transit operators have become vocal advocates in the industry, assisting other operators who are struggling with their zero-emission strategies. For instance, in the U.S., there is a mandate for 50% of all new transit buses to be zero-emission starting in 2025, increasing to 100% by 2029. They need to have plans in place and have been exploring various technologies. Some transit operators have tested battery electric buses and found that, in some cases, this technology hasn't met the range and performance they require due to the specific duty cycles and climate conditions they face. Several factors are contributing to this situation, and while the pace is a bit slower than we would prefer, it is evident that scaling is taking place. Moreover, considering the progress in green hydrogen production policies, the future availability of low carbon, low-cost hydrogen in the U.S. and European markets in the next few years will significantly enhance the potential for fuel cell vehicles. In many applications, fuel represents a significant portion of the total cost of ownership, often between 30% and 60%. As the availability of decarbonized and low-cost fuel improves, we anticipate significant growth in fuel cell opportunities, not only for buses but across various mobile applications.

Okay. Thank you. And then on kind of gross margin and I guess, pricing, you talked about some strategic pricing activity. How does that work? Is that time based, over time prices come down? Or do customers have to buy certain volume levels?

Yes, that's a great question, Rob. There are a few factors to consider. First, it's important to recognize that early adopters currently lack a strong economic incentive. They are engaging in low-volume purchases and demonstration projects where the economics are difficult, and we're unable to support the kind of economics that would lead to greater adoption. As a result, these customers are taking risks by investing in this technology. We, along with other partners in the ecosystem, are also sharing some of that investment and risk. We've been very selective in choosing partners with whom we anticipate significant future volumes, and we've focused on supporting the success of their early deployments to validate the technology and the long-term total cost of ownership, which includes hydrogen fuel assumptions. These strategic decisions are leading to relationships we believe will be strong going forward, but they are also impacting our financial results, including our strained gross margins. In terms of the structure of these relationships, I would describe them as being volume-based rather than time-based. We have specific projects and programs, and in some instances, we implement tiered pricing structures where customers can purchase a certain number of units at a given price. If they choose to adopt more aggressively, we can offer them a more favorable price. Therefore, we do have tiered pricing based on volume.

The next question comes from Justin Strong with Scotiabank. Please go ahead.

Just a quick question here. Has your CapEx profile and timeline for the upcoming Shanghai investment changed at all recently? And if not, what do you see as the biggest risk to these plans?

Yes, Justin, first of all, welcome, and thanks for the question. Yes. So from a geopolitical perspective and also wanting to see more progress in the China market, we’re really pacing our investment in that market to defer spend in the China market as long as possible. So, we have pushed back some of the spending. So some of the spending that we would have originally expected to materialize in 2023, we pushed into 2024 to be prudent. And that’s something that we’re tracking literally every quarter on whether or not we cut checks and if so, for what purpose, whether it’s the order of equipment or land acquisition costs and permitting. So, we are pacing our investments to get as much information as possible before additional spend occurs.

Great. You mentioned geopolitical risk. Do you think that stems from trade or tariff changes, or what do you believe is driving that?

It’s very challenging to predict or make assumptions about these matters due to numerous variables. We experienced this in 2022 with the invasion of Ukraine as a prime example. We continue to monitor various risks, and over the past few months, we have observed that geopolitical tensions remain strained and are, in our view, moving in an unfavorable direction. It's essential to recognize that the Chinese market is substantial—it is the largest market for buses, trucks, trains, and marine vessels, and currently the biggest user of hydrogen. Their policies are aimed at encouraging multinational companies to establish parts of the fuel cell value chain in China. We have seen several companies, such as Cummins, Umicore, Johnson Matthey, and recently Plastic Omnium, announce investments in China, with some even occurring in the same Jiading District where we are developing a hydrogen fuel cell cluster. Many companies are aligning with our strategy to localize the value chain in China to ensure access to this significant market, not only for China but also to utilize those resources globally.

The next question comes from Manav Gupta with UBS. Please go ahead.

My first question is regarding the IRA that was passed last year. The treasury department is working through some issues, but the Biden administration is investing significantly in hydrogen development in the U.S. From your standpoint, have you noticed any developments in building the necessary infrastructure for hydrogen to enter the mobility market moving forward?

Yes, great question, Manav. Last week, I attended the CERAWeek conference in Houston, which is likely the largest energy conference globally. During the event, it was clear that hydrogen was a central topic, particularly the opportunity presented by the attractive $3 production tax credit for green hydrogen. However, despite the favorable policies, we have not yet seen significant infrastructure development. What we do see is a growing pipeline of projects bidding for hydrogen hubs. The U.S. Department of Energy has indicated that there might be 7 or 8 hydrogen hub sites in the country, up from the initially expected 4 to 6. Major players in the energy sector, industrial gas companies, and renewable energy firms are increasingly looking to engage in this promising market. The Inflation Reduction Act is transformative, likely resulting in low-cost, low-carbon hydrogen for various decarbonization efforts across industries, energy, and mobility. While mobility infrastructure may progress more slowly than industrial decarbonization, there is substantial discussion around developing hubs that support mobility and corridor refueling options. Overall, I believe this is just a matter of time before it fully rolls out.

Perfect. My very quick follow-up here is it looked like there were some onetime items because your gross margin came in lower than expectations. Your gross margin is generally better than that. So help us understand those few line items so we can be sure that the gross margin is not what we saw in the fourth quarter. Thank you.

Sure. So, Manav, it’s Paul here. So there’s a number of factors going in, some of which we’ve already talked about affecting the gross margin, including the pricing strategy, which lowered the contribution margin for the Power Products by about 7 points. And then in our Technology Solutions business, with the wind down of the Audi contract, little less activity with the joint venture technology, that lowered our margins and some new customers coming on, again, with the pricing strategy at lower margins or lower price for TS type business. And then some of the one-times that you mentioned include some inventory write-offs for obsolete equipment for discontinued products. And then, we also booked an onerous contract provision. So having some customers with increasing orders, repeat orders tipping into lower tiers and causing those contracts at the moment to be onerous. And so, under accounting rules, you have to book the provision on that. And that was about, in total, about 8 points of the difference. And then finally, as we talked about earlier, with the lower amount of revenue, not absorbing all of our net fixed overhead, so the manufacturing overhead, and that was about 7 points of that.

The next question comes from Greg Wasikowski with Webber Research. Please go ahead.

First one, just thinking about the next 12 months here, what are the primary objectives for Ballard? And obviously, it’s a pretty tough question because everything is so important, obviously. But between sales, margins backlog, China, policy, et cetera, you name it. If we jump ahead one year from now and look back, Randy, what would be your number one milestone that you’d like to see achieve?

Yes. We see internally, Greg, very often the top 3 deliverables this year are order book, order book and order book. So that gives you an indication of where the focus is. What I would say is that I would expect at the end of 2023, it would be very similar to the progress we made in 2022 in some ways, customer platform wins, repeat business, getting to larger orders and that backlog growing so that we have better visibility, not just for one quarter out or even the next 4 quarters but for subsequent years as well. So that to us is very important, is getting those customers through longer-term relationships, we’re embedded and sticky with those customers. And then the second thing that’s really important is cost reduction. And we have a significant organizational investment that goes on, not only to improve product performance, but really driving down MEA, plate, stack module cost reduction. And this is a critical thing because we need to, in the future, be able to ensure we’re offering that value proposition for customers to unlock the scaling effect but also to make sure that we have gross margins that enable a sustainable business. So, we think the gross margin line in your income statement is critically important. It’s something we’re focused on for the long term. And so, those would be the two highlights. I would say, order book and cost reduction.

Got it. Okay. Cool. Thank you, Andy. And then for a follow-up, just on EV charging, can you talk a little bit more about that opportunity for hydrogen and fuel cells within that segment? And geographically, where are you seeing the initial demand now? And where do you expect to see a pickup in demand for that application in the next year or couple of years?

Yes, great question. So, what I would say is that as EV infrastructure or EV adoption goes from, let’s call it, less than 1% in some markets to 5% and 10% and much higher in markets, you really start to see the strain on grid infrastructure and recharging capabilities. And so, we do see this opportunity initially in the U.S., but this is not a phenomenon that’s unique to the U.S. There will be grid infrastructure challenges in the U.S. and in the European theater. So we expect to see lots of opportunity for these applications going forward.

The next question comes from Kashy Harrison with Piper Sandler. Please go ahead.

So, the first one for me, just a quick clarification. On the heavy-duty Chinese revenues in Q4, was the softness there mainly associated with COVID, or was that due to nuances surrounding the initial clusters being in Beijing, or was it driven by some other factor?

I wouldn’t characterize it solely as softness in the fourth quarter; rather, it reflects a trend of softness throughout 2022 due to various factors. COVID had a significant impact, particularly in key markets during the first half of 2022, and we did not see any easing in China until late 2022. Travel resumed in early 2023, but the more fundamental issue lies in the complexity of how policies in China are implemented and how the application processes work, especially concerning the intricate points system associated with the hydrogen fuel cell value chain. This complicated policy environment has left many organizations struggling to navigate it. Furthermore, for investors to feel confident in making large-scale deployments, there needs to be assurance that available subsidies will indeed be disbursed. Thus, the main challenge is the need for greater clarity in policies. While there is discussion on this topic, I predict we will see more policy clarity in 2023, partly due to the increasing competitive landscape among the U.S., Europe, and China in establishing hydrogen fuel cell policies to foster hydrogen adoption and bolster economic development. Therefore, I anticipate ongoing progress in policy across these three markets, which will ultimately benefit Ballard shareholders.

And just for my follow-up question, can you either remind us or perhaps provide a framework to help us understand the revenue potential of the business, once that MEA facility in China is operating at your targeted utilization? And then, maybe part and parcel with that, what level of utilization do you think is necessary to get to positive gross margins? Thank you.

Yes. That's a great question. It's important to note that our manufacturing capability for MEAs in the facility supports around 20,000 fuel cell engines. I view the key factors here as the revenue generated from selling MEAs to the Weichai-Ballard joint venture and the opportunity for us to utilize these MEAs globally across various applications. Additionally, the joint venture will leverage these domestically produced, low-cost, high-performing MEAs for selling modules in that market. I believe this MEA production facility will create a significant leveraging effect. When we sell MEAs as a standalone product, we typically achieve a very high gross margin. While I don't have the precise utilization rate for that facility, I believe that even at a 50% utilization rate, we would achieve strong economic returns.

The next question comes from Craig Shere with Tuohy Brothers. Please go ahead.

With the Audi roll off, can you opine on prospects for quarterly cadence of Technology Solutions revenues in ‘23 and prospectively into 2024? And there’s a lot of discussion about potential growth in the order book this year and how that could be, say, anywhere from 3 to 18 months between book-to-bill. But is it fair to say that the bus fuel cell orders can be on the quicker end of that, say, 3 to 6 months?

Yes, addressing Craig's last question first, we've found that the bus market is quite unpredictable regarding when transit operators will actually deploy their vehicles, which means the timing for placing orders can differ significantly. Even after an order is received, there can be delays related to hydrogen refueling infrastructure. Once we have an order for buses, it’s reasonable to expect realization within a 3 to 6-month timeframe, although it can take longer in some cases. Additionally, in other markets, particularly with larger applications such as 1 megawatt systems, it typically takes longer not just for production but also for customers to be prepared for vehicle or site infrastructure requirements. Regarding the Technology Solutions front, we don't provide specific quarterly guidance, but you can expect a relatively flat performance from quarter to quarter for 2023, with reduced revenue compared to 2022.

The next question comes from Brett Castelli with Morningstar. Please go ahead.

Just a question on longer term gross margins. Should we expect gross margins by end segment or vertical to be pretty comparable, or are there certain end segments that would be maybe higher or lower across the portfolio?

Yes. Great question. We are expecting to see certain verticals that have better gross margin performance and it’s all a function of the various options that those verticals have to achieve their decarbonization goals and the total cost of ownership for those market segments. So, as an illustrative example, we would expect to see the marine market to be a higher gross margin segment than the truck market.

This concludes the question-and-answer session. I would like to turn the conference back over to Randy MacEwen, CEO, for any closing remarks.

Thank you for joining us today. Paul, Kate and I look forward to speaking with you next quarter, and we also look forward to the Capital Markets Day in June. Thank you very much.

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