Earnings Call
Fluence Energy, Inc. (FLNC)
Earnings Call Transcript - FLNC Q4 2022
Operator, Operator
Good day, and thank you for standing by. Welcome to the Fluence Energy Fourth Quarter 2022 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Lexington May, Vice President of Investor Relations. Please go ahead.
Lexington May, Vice President of Investor Relations
Thank you. Good morning, and welcome to Fluence Energy’s fourth quarter 2022 earnings conference call. A copy of our earnings presentation, press release and supplementary metrics covering financial results along with supporting statements and schedules, including reconciliations and disclosures regarding non-GAAP financial measures, are posted on the Investor Relations section of our website at fluenceenergy.com. Joining me on this morning's call are Julian Nebreda, our President and Chief Executive Officer; Manu Sial, our Chief Financial Officer; and Rebecca Boll, our Chief Product Officer. During the course of this call, Fluence management may make certain forward-looking statements regarding various matters relating to our business and company that are not historical facts. Such statements are based upon the current expectations and certain assumptions and are, therefore, subject to certain risks and uncertainties. Many factors could cause actual results to differ materially. Please refer to our SEC filings for our forward-looking statements and for more information regarding certain risks and uncertainties that could impact our future results. You are cautioned to not place undue reliance on these forward-looking statements, which speak only as of today. Also, please note that the company undertakes no duty to update or revise forward-looking statements for new information. This call will also reference non-GAAP measures that we view as important in assessing the performance of our business. A reconciliation of these non-GAAP measures to the most comparable GAAP measures is available in our earnings materials on the company's Investor Relations website. Following our prepared comments, we will conduct a question-and-answer session with our team. During this time to give more participants an opportunity to speak on this call, please limit yourself to one initial question and one follow-up. Thank you very much. I'll now turn the call over to Julian.
Julian Nebreda, CEO
Thank you, Lex. I’d like to extend a warm welcome to our investors, analysts, and employees who are participating on today's call. Additionally, I would like to welcome Manu Sial, our new CFO. Manu joined us in September and has already made a significant impact on the organization in a short period of time. Welcome, Manu. Today, I will provide a brief update on our business and then review our strategic objectives, as well as some examples of the actions we’ve already taken towards these goals. Following my remarks, Manu will discuss our financial performance, as well as our outlook for fiscal year '23. Starting on Slide 4 with the key highlights of the fourth quarter, I'm pleased to report that our team recognized $442 million of revenue during the quarter, delivering our highest quarterly revenue in Fluence’s history and deploying more than 1 gigawatt hour of energy storage solutions. More importantly, we achieved positive gross margins for the quarter, both on an adjusted and GAAP basis. Our demand was strong across all three of our business lines and new orders were approximately $560 million. Furthermore, our signed contract backlog as of September 30 was $2.2 billion, a year-to-year increase of around 30%. Lastly, our recurring revenue businesses, which consist of our services and digital businesses experienced strong growth in the quarter. Notably, our services attachment rate of 119% for the fourth quarter was in line with our expectations, illustrating the catch up in service contracting we anticipated during our previous earnings call. Our digital business added nearly 1 gigawatt of assets under management since the third quarter, providing us visibility to future revenue. Turning to Slide 5. Over the past 90 days, the senior management team and I have conducted a deep dive of our business. During this deep dive, we reaffirmed those aspects of the business that are working well and identified several areas that have significant upside potential but need some work. We confirmed that Fluence’s Energy storage solution business has tremendous tailwinds across the globe, including from the Inflation Reduction Act in the United States and Europe’s growing desire for increased energy security and independence. Although our digital business has strong potential, we have determined that the platform and business model would benefit from simplification and tighter integration with our storage solutions business. For example, our current Mosaic product is not able to expand into new markets quickly due to its current tech architecture that will be addressed. Going forward, we will concentrate on accelerating the integration of our offerings, including digital and services, with our storage in order to serve customers with an end-to-end bundled solution. Concentrating on executing and strengthening our risk management capabilities to ensure we monetize our contracting margins. Additionally, we are simplifying our digital platform and retooling our go-to-market strategy to increase the scale of both Mosaic and Nispera and to roll out these products more quickly and at a lower cost. Furthermore, we will convert our supply chain into a competitive advantage by leveraging our size and scale to drive margin and support for easier implementation of solutions. I'll provide more color on each of these initiatives in a few minutes. After meetings with hundreds of our Fluence people in the past 90 days, I’m confident in our ability to maintain our leadership position in the market, deliver multiyear profitable revenue growth rates of more than 30%, and reach adjusted EBITDA breakeven in fiscal year '24. I believe our team’s tenure, passion, and resilience will set Fluence up for long-term success, unlocking significant value for our customers and shareholders. Turning to Slide 6. Coming out of this process, I’m confident that our strategy of using our ecosystem to provide energy storage solutions to our customers is the right one. Our ecosystem gives us access to the largest energy infrastructure providers in the world and importantly, it provides opportunities to further integrate with our customers at any point of the value chain. Our revised go-to-market approach is simple; we will utilize one sales channel for our entire ecosystem. This is different from our past where we used multiple sales channels across our business organization. This turned out to be an ineffective strategy when it comes to attaching our services and digital solutions to an energy storage sale. An integrated sales channel will give us a better ability to integrate our customers into our ecosystem. As we have seen, our digital software is valuable beyond its own P&L contribution, as it supports hardware and services creating a flywheel effect of value. Additionally, we will work to integrate our technology more closely, so that our digital offerings interface with our storage solutions seamlessly, thus increasing the attractiveness to our customers of choosing bundled solutions. Our ability to offer integrated energy storage solutions is one of the key reasons our customers select us. We are increasingly recognized as one of the premier energy solutions providers in the world by large multinational developers, or IPPs, many of which are planning to deploy significant amounts of gigawatts. The integration of these offerings is a key tool in retaining customers beyond day one sales, so we can access them anywhere along the value chain. We have visibility to multiyear high revenue growth rates. We operate with an asset-lite business model with high returns on invested capital. We have significant technical depth which helps us monetize data and help our customers drive returns. We also have a rapidly improving cost structure with high revenue per employee. Ultimately, we believe we have a business model and strategy set up for success. Turning to Slide 7. I would like to discuss the five strategic objectives that will provide the framework for the actions we will be taking over the next few years. First, we will deliver profitable growth. Both profitability and growth are essential to maximizing shareholder value. We will focus on those market segments that provide continuous growth and where our complex solutions allow us to maximize profitability. Second, we will develop the products and solutions that our customers need. Understanding our customers’ challenges is the driving force behind our continuous technological advancement. We expect to provide customers with the most sought-after solutions rooted in our industry-leading experience. Third, we will convert our supply chain into a competitive advantage. We're establishing a best-in-class supply chain that is centered around diversifying our suppliers, capturing incentives from the IRA, and improving the delivery times for our solutions, all of which will ultimately increase margins and drive value for our customers. Fourth, we will use Fluence Digital as a competitive differentiator and a margin driver. Harnessing the power of artificial intelligence and machine learning in our integrated solutions, we can uniquely provide our customers with the ability to both maximize their revenues and lower their overall cost of ownership. This will increase visibility into our growing and profitable recurring revenue stream. Finally, our fifth objective is to work better. This starts with being disciplined with our capital spending and contract underwriting, optimizing and using our resources efficiently, and having strong corporate risk management capabilities, controlling our costs and maximizing our financial performance for our shareholders. We have already taken actions towards these objectives, some of which I would like to highlight. Turning to Slide 8. I'm pleased to announce that we're launching a new energy storage solution geared towards the transmission segment. We are calling it the Fluence Ultrastack. The transmission segment is a growing market that currently sits at 450 megawatts, which we expect will grow to 17 gigawatts by 2030. We expect demand for this product will be driven by our customers' need to reduce transmission congestion resulting from growth in distributed energy resources. Furthermore, the transmission segment is highly complex and requires the best performance and highest safety features, thus creating a barrier to entry in the market, some of which are proprietary. More importantly, higher complexity commands a higher premium for our products and services and often results in higher margins. We will continue to lean into the transmission segment as we deliver profitable growth and develop new products and solutions that our customers need. Turning to Slide 9. I'm pleased to report we’ve recently signed a contract for more than $500 million with Orsted, under which we will deliver a 1.2 gigawatt-hour energy storage facility in the United States, complete with our Gen 6 Gridstack solution. By further increasing our scale, we'll be able to better capture value from our supply chain. We also note that Orsted selected us as they were looking for a trusted partner with strong experience in delivering complex solutions. As a comprehensive solutions provider, we continue to outpace our competition due to our scale, industry-leading experience, and our ability to solve highly complex problems. We're quickly establishing ourselves as a leader among the mega project segment. Turning to Slide 10. Including the Orsted contract, which was signed subsequent to our fiscal year-end, our backlog now sits at more than $2.5 billion. This highlights the strong demand we're seeing at the top of our funnel, that is now providing us greater certainty with respect to our multiyear revenue outlook. Looking at the chart, you can see that even before any impacts from the IRA, we have a pipeline that is nearly three times our current backlog. It is also important to note that we're expanding our sales to non-1-related parties and as a result, a majority of our backlog today is with this customer segment. Turning now to Slide 11. As we mentioned earlier, we are experiencing tremendous tailwinds from the Inflation Reduction Act. BNEF has estimated that the TAM for energy storage increased by more than 100 gigawatt hours or around $35 billion as a result of the IRA. That is significant. The expected ITC improves overall project returns for customers; this benefit is expected to accrue to us through improved pricing power or increased volumes. Furthermore, the production tax credit provides margin uplift for Fluence by capturing benefits associated with manufacturing our own battery. It's also important to note that the IRA benefits are not necessary for achieving our adjusted EBITDA breakeven target in fiscal year '24 and thus represent upside potential. We currently see the IRA impacting Fluence through three areas. The first is the ITC for standalone storage. This benefit accrues to our customers, and we expect it will incentivize more projects to move forward and to greenlight other projects that were previously not economic for our customers. As a result, we anticipate the U.S. market growth to increase from 30% per year to around 40% to 50% per year. Based on our conversations with customers, we expect to enter into the first of these contracts attributable to the IRA around mid-calendar year '23. We would expect to see the impact on our financial results in the second half of ’24. Second, the production tax credit under Section 45X of the IRA provides significant opportunities for Fluence, as we're launching our own battery module manufacturing, which I'll discuss further shortly. As a result, we expect to qualify for the $10 per kilowatt-hour incentive from the IRA. It's important to note that this is an uncapped incentive and carries a direct pay option. As a reminder, we opened our Utah production facility in September, which will have an expected output of nearly 6 gigawatt hours per year by ’24. We expect we'll be able to begin battery module production starting in the summer of ‘24, thus capturing the $10 per kilowatt-hour incentive. The PTC further supports our mid-teens gross margin target. Third, Section 48C provides for the one-time reimbursement for onshoring or establishing qualifying manufacturing facilities in the U.S. As a result, we're currently looking at the possibility of expanding our operations in the U.S. with an additional facility. Turning to Slide 12. I'm pleased to announce that we're launching our own battery module and battery pack manufacturing at our new Utah facility. This gives us greater control over the global supply chain and allows us to capitalize on the incentives under the IRA. One of the key benefits of the Fluence Battery Pack is that it is easier to incorporate new cells and diversify our cell supplier base, creating competition at a cell level. Our Battery Pack makes it easier to swap packs in and out of new product variants. It also allows us to incorporate our own battery management system technology with more granular data access and system controls and it expands Fluence’s battery intelligence capabilities. We expect to see initial battery module production coming out of our Utah facility during the summer of '24. Looking at Slide 13. We further illustrate our supply chain and how our battery module and battery pack fit together. Starting on the left-hand side, we will continue to purchase battery cells from multiple battery manufacturers. Battery cells by themselves are useless to a great extent a commodity. We take those battery cells and integrate them into our battery modules complete with our own battery management system. Thus, we're taking those commoditized battery cells and turning them into smart batteries capable of performing the tasks in our solutions demand. These battery modules will qualify for the $10 per kilowatt incentive under the IRA. We then put several battery modules together to make a battery pack that is combined with our DCPM, which is the brain of the pack system. This DCPM collects battery data for communication with the Fluence operating system and is a point of contact for our cloud-based digital solutions, providing value-added integration for our customers. Turning now to Slide 14. As I briefly mentioned earlier, we have assessed our digital business and have refocused the model and go-to-market strategy. Now I'd like to discuss what this means for Fluence Digital and where we're going. First, we ensure we're offering an integrated and holistic end-to-end bundled solution to our customers through one sales channel. As I mentioned, this is a major change for our prior sales efforts. Second, we will simplify our suite of digital offerings by focusing on our existing two applications, Fluence Mosaic and Nispera. We plan to roll out Mosaic to four additional U.S. markets over the next three years and improve the ability of Nispera to integrate with battery-based energy storage systems. By taking a more focused approach, we expect to reduce the cost complexity and time to market for these applications. We do not plan to build out any additional applications at this time. Third, we're accelerating the Nispera platform's ability to be deployed onto battery energy storage systems by the end of this year. Thus enabling our new bundled solutions to be more integrated with our batteries. What do we expect to achieve as a result of these actions? Improved attachment rates for services and digital through a bundled approach, increased annual recurring revenue or ARR of our digital and services business; a low rate of customer churn though I would note that our churn rate is already very low. Going forward, starting later in this fiscal year 2023, we will report our progress on these initiatives by disclosing the relevant KPIs. We expect that this retooling will require a relatively small investment of $5 million to $10 million. As it relates to the financial outlook for our digital business, we do not expect meaningful contributions from our digital business in '23 or '24. We expect to have positive gross margin in fiscal year '23 and onwards and expect adjusted EBITDA to be at or near breakeven in fiscal year '25. Moving to Slide 15, we're enhancing our India Technology segment, increasing utilization through workforce optimization that will augment roles in India in 2023 to the benefit of our onshore overhead. This contributes to our operating numbers, with our operating expenses expected to grow at less than half the rate of revenue growth which Manu will explain further. Turning to Slide 16 for a summary of recent actions. As a management team, we're committed to delivering increased shareholder value and to executing the five strategic objectives that I have discussed as the foundation of our plan. We will provide you with quarterly updates on our progress towards strategic objectives as we transform the way we operate and drive sustainable returns. Overall, we continue to see strong demand that is expected to be amplified by the core IRA build that will start adding to our backlog in mid-‘23. We are committed to breaking even on an adjusted EBITDA basis in fiscal year '24 as we enter into higher margin contracts. We're dedicated to improving our project execution and our overall risk management. I'm pleased with the early results of our efforts, but there is still work to be done. As we move forward, we will continue to focus on executing a high growth, capital-light solution business model and expect to make Fluence the optimal investment vehicle in our sector. That being said, I will now turn the call over to Manu.
Manavendra Sial, CFO
Thank you, Julian. I want to start by expressing my appreciation for Julian and the Fluence Board for their confidence in me. The past couple of months have been a period of rapid learning. I firmly believe that Fluence is well-positioned to capitalize on the untapped market bolstered by the Inflation Reduction Act, which has increased our potential by over $35 billion. My emphasis will be on reinforcing our organizational foundation to facilitate profitable growth, including improvements in our deal underwriting, risk management, and execution capabilities. Let's review our financial performance for the fourth quarter of 2022. In this quarter, we achieved record revenue of $442 million, marking an 85% increase from the third quarter. This outstanding revenue result was mainly due to effective project execution, with several projects reaching significant milestones. We also reported positive gross margins in the fourth quarter, with 3% on an adjusted basis and 2% on a GAAP basis, backed by strong revenue performance and enhancements in our capability to pass increased input and supply chain costs onto customers. This represents a critical turning point for us. Although 2022 presented challenges, we finished the fourth quarter with positive gross profit and believe we have largely overcome the issues we faced. Looking ahead to 2023, we anticipate that new contract margins will benefit from enhancements in our deal underwriting process, including the implementation of index-based pricing. We've also improved our product rollout execution by utilizing our lab to test and troubleshoot solutions before field deployment. Transitioning from gross profit to operating expenses, we've increased our operating leverage in the fourth quarter 2022 by reducing our operating expenses as a percentage of revenue compared to previous quarters and years. Our operating expenses fall into two categories: SG&A expenses, which are essential overhead costs for our business operations at both corporate and regional levels, and what we term platform investments, primarily R&D expenses considered a type of growth capital expenditure. For the full year 2022, our operating expenses accounted for 15.5% of revenue, which we expect will remain a high watermark. In 2023 and beyond, while we do expect an increase in our operating expenses in absolute terms, we foresee their growth rate being less than half that of our revenue growth, leading to improved adjusted EBITDA. To enhance transparency, we have also begun providing a supplemental quarterly metric sheet on our Investor Relations website to give analysts and investors deeper insights into our financial and operational performance. As of the end of 2022, we had total cash of $540 million, which includes our short-term investments and restricted cash, aligning with our guidance. Based on our cash bridge, most of our cash usage in 2022 was attributed to negative adjusted EBITDA, and we expect this trend to persist into fiscal year 2023. Additionally, we anticipate modest capital expenditures, including those for our digital business retooling. Similar to 2022, we plan to utilize some operating cash in 2023 at a rate of about 10% of our year-on-year revenue growth. We believe we have sufficient liquidity to meet our cash needs for 2023. We're initiating guidance for fiscal year 2023, anticipating total revenue to be between $1.4 billion and $1.7 billion, along with adjusted gross profit expected to range from $60 million to $100 million. As we enter 2023, we already have about 90% of expected revenue at the midpoint of our guidance in our backlog, plus we've secured additional supply chain commitments, which boosts our confidence in our revenue forecast. Our guidance does not include any financial benefits from the Inflation Reduction Act, as we foresee order growth in 2023 with sales impacts predominantly in 2024 and beyond. Regarding revenue seasonality, we expect to see approximately 40% in the first half and 60% in the second half. We also anticipate that operating expenses will grow at a rate lower than half of our revenue growth, allowing for significant operating leverage. Our India Technology Center will be utilized more, enabling us to scale at a lower cost. We are confident in our adjusted gross profit guidance for 2023 between $60 million and $100 million, driven by improved contract underwriting and execution. This will come from signing new contracts at or near double-digit margins, an improvement over past performance, while also recovering some of the supply chain cost increases. We expect that our gross margin run rate at the end of 2023 will exceed full year 2022 rates as legacy contracts conclude and new deals gain a larger share of our portfolio. Before we open the floor for questions, I want to reinforce our visibility towards achieving breakeven adjusted EBITDA in 2024 and sustained revenue growth of over 30% in the coming years, positioning us to leverage the advantages provided by the Inflation Reduction Act. With that, we will now take questions.
Julian Nebreda, CEO
Good morning. This is Julian. I want to apologize for the audio issues; it seems my accent did not work well with the microphone, causing the main sound problems. To resolve this, we will be posting our script on the website for access, and Lex will also send it by email. If you have any questions about the script later, feel free to reach out to Lex directly. Before we start, I think it's important to mention that the quality of the requirements was inversely related to the quality of the communication, which unfortunately did not come across as intended. I sincerely apologize for this and assure you it won't happen again. We're still testing the system, and it may not be suitable for my voice and accent. With that, operator, please open the floor for questions.
Operator, Operator
Thank you. Our first question comes from James West with Evercore ISI. Your line is open.
James West, Analyst
Hey. Good morning, Julian and Manu.
Julian Nebreda, CEO
Good morning, James.
James West, Analyst
Julian, as you've stepped into your leadership role here at Fluence, you're focused much more on profitable growth and profit being, of course, the key goal there. Has your bidding strategy changed? Obviously, there's a huge amount of growth in the business itself, but have you adjusted the way the company bids on projects?
Julian Nebreda, CEO
What we have done, James, is to segment the market in more detail to identify which market segments and geographies we could actually aim for our 10 or double-digit margins. So every time we engage with a new customer or enter a new project, we know that the customer’s business case will allow for the value we're creating to meet our profit objectives. Additionally, with Manu’s leadership, we have put in place a new contract review process internally to ensure not only that we reach our double-digit margins but also that the risk profile of the projects we enter into is reasonable enough to allow us to monetize the full margin. Thus, we have worked generally to drop some segments and not be very active in certain areas, enabling us to keep our volumes while meeting our profit objectives as we move forward.
James West, Analyst
Okay. Makes sense. Another key differentiator with your strategy is a more focused approach on the digital aspects of the business. Could you highlight if that is a lot of internal R&D and maximizing what you have, or are you looking at external M&A opportunities as well?
Julian Nebreda, CEO
What we want to do now is integrate. The work we are focusing on is integration. While we are integrating the sales channel, this requires training and some investments, but we are integrating our operating systems with our digital offerings. They may not be the same, but they will communicate more effectively. This will provide our customers with a seamless experience when purchasing our hardware solutions and engaging with our digital solutions. We are actively working on improving the Mosaic platform. Regarding mergers and acquisitions, we do not plan to pursue any right now. For the moment, we will concentrate on our platform. We believe these are the two areas that are currently the most appealing, where the business cases are clear and align with our market segments. As we reach breakeven for our digital business in 2025, we will explore other applications. Ultimately, we will consider applications based on our commercial capabilities that our customers can utilize and monitor. One of the challenges we've faced previously is that some applications were linked to customer segments where we had no presence. Therefore, we have implemented a new sales channel and additional fixed costs, which we currently believe is not advisable.
James West, Analyst
Okay. Thanks, Julian.
Julian Nebreda, CEO
Thank you, James.
Operator, Operator
One moment. We have a question from Brian Lee with Goldman Sachs. Your line is open.
Brian Lee, Analyst
Hey, guys. Good morning. Thanks for taking the questions.
Julian Nebreda, CEO
Good morning, Brian.
Brian Lee, Analyst
Good morning. I had a couple around the margins. First off, maybe more of a clarifying question. At points in time during the script, I think, Julian, you said adjusted EBITDA breakeven target in fiscal '24 but then at or near breakeven for full year fiscal '25. So I think what you're saying is you'll be adjusted breakeven for the full year in fiscal '24 consolidated, but then at or near breakeven for the full year fiscal '25 just in the digital business. Is that the right characterization?
Julian Nebreda, CEO
Exactly. Exactly right. We will be adjusted breakeven in '24, and digital itself will be breakeven in '25.
Brian Lee, Analyst
Okay. That prompts a follow-up question, which is a lot of investors we speak to assume that the digital software applications piece of your business model would be more profitable than the hardware-centric side. So why is digital taking so long to get to profitability? It seems like some of your peers in the energy storage vertical are well ahead in moving toward profitability and already positive gross margin on their digital platforms. Just trying to understand your perspective.
Julian Nebreda, CEO
A very good question. I think that this is a capital-safe, our bidding strategy. The ability to gain economies of scale requires expanding into a new market from going from Australia to California, but it has been very complicated and expensive to do so, making it difficult to meet our growth objectives. What we're doing now is concentrating on the grid platform in our solution to ensure that we can move into a higher-speed growth. So that's the rationale for why we may be further down the road than we expected at this stage.
Manavendra Sial, CFO
And just one clarification on your first comment: we expect to be positive or at least near positive gross margin in digital for 2023 as well. And then the other thing I'd say is we've talked about margin rates between 80% to 90% in the digital business, that's still true over the next several years. Julian's comment was much more around the EBITDA.
Brian Lee, Analyst
That's super helpful. Thank you for the clarification. I have one last question, and I'll pass it on. The EBITDA breakeven target for fiscal '24, I think in the past, you had said, I think, two quarters ago, there's a path to gross margins sort of in the 10% range for fiscal '24. Is that what's embedded in the view to get to EBITDA breakeven in fiscal '24? Just any thoughts around the gross margin trajectory?
Manavendra Sial, CFO
So Brian, you said it right. That is the thought. If you look at our Slide 21, we are signing contracts at near double-digit margins, so we feel very confident about getting to adjusted EBITDA breakeven for 2024 on the back of double-digit gross margins. And from an operating leverage perspective, we believe that 2022 will be the high watermark as a percentage of revenue, and we expect to reduce that as a percentage of revenue given that our operating expenses will grow at less than half of our revenue growth.
Brian Lee, Analyst
Okay. Great. Thanks, guys. I’ll pass it on.
Julian Nebreda, CEO
Thank you.
Operator, Operator
Our next question comes from George Gianarikas with Canaccord Genuity. Your line is open.
George Gianarikas, Analyst
Hey. Good morning, everyone. Thanks for taking my questions. Let me start with your decision to manufacture packs in the U.S. Can you talk about the incremental CapEx required to do that? The incremental hires you would need to make, and whether this will be a global move or if this moves you away from an asset-light strategy? Thank you.
Julian Nebreda, CEO
Well, it's the same strategic position we have today. We will use contracted manufacturing; we will not be owning the manufacturing facility. We've invested in the design, the IP, and the software, but we will still maintain a capital-light business. This will be manufactured by our contract manufacturers. This is directed at the U.S. market, but as we grow in other regions, we might also build for Asia and Europe. As of today, it is only for the U.S. We believe that our capital-light model will continue, and one thing that has surprised me is the quality of the contracted manufacturing that is available in the U.S. and how much value they can create, so we are very happy with our contracted manufacturers.
George Gianarikas, Analyst
Thank you. As a follow-up, could you discuss the cell supply situation and whether it has improved incrementally over the last few months and what, if any, other equipment may be causing bottlenecks still for deployments? Thank you.
Julian Nebreda, CEO
Yeah. The battery supply situation is improving. We haven't had any delays. I know the market is tight generally, but our relationship with our suppliers and our scale allows us to ensure that we do not face issues in delivering batteries on time and under the terms that we require. I will say that I don’t see any other markets that are tied that we are concerned about. Clearly, we are confident in our position. This is one of the reasons we believe scale is important to manage our supply chain effectively.
George Gianarikas, Analyst
Thanks.
Julian Nebreda, CEO
Thank you.
Operator, Operator
Our next question comes from Maheep Mandloi with Credit Suisse. Your line is open.
Maheep Mandloi, Analyst
Hey. Good morning and thanks for taking our questions. Just maybe about the Fluence stack and the Fluence cube. I’m trying to understand the core difference here, and part of that is just to get the domestic content added under the IRA. Would the new systems qualify just with the battery pack manufacturing in the U.S. or would you have to procure the batteries from the U.S. market as well? Thanks.
Julian Nebreda, CEO
The regulations regarding IRA will be considered on a U.S. basis, but the battery model system has not been issued. So it is still unclear how upstream they will go, so we are working on ensuring we can meet the qualification requirements and we are discussing with battery cell manufacturers to source some sales from the U.S. or purchase locally. So that's where we are.
Rebecca Boll, Chief Product Officer
To clarify your question, you are looking to understand the difference between the Fluence cube and the Ultrastack or Gridstack. You can think about the way we design products as we build a platform first. In the platform, we have this enclosure with the batteries inside, but our platform also includes inverters, control systems, and fire safety systems. We put these pieces together in well-defined units that create our stack. The Gridstack, for example, is a product on top of that platform that is inclusive of inverters and control systems. We announced today Ultrastack, which is another version on that same platform. Its differentiation lies in the control system. It has a highly redundant system necessary for the transmission operators.
Julian Nebreda, CEO
But they are very different in how they appear and work when you look at our customers. They offer very different services at different levels of response time and quality security.
Operator, Operator
We have our next question, which comes from Mark Strouse with JPMorgan. Your line is open.
Mark Strouse, Analyst
Yes. Excuse me. Good morning. Thanks for taking our questions. I wanted to go back to the IRA. The $10 per kilowatt-hour you are calling out for the modules; is there a good rule of thumb that we should be assuming as far as how much of that you keep versus what you share with your contract manufacturer or kind of pass on to your customers?
Julian Nebreda, CEO
Yeah. We will keep it. You should not look at this as something that will add only 2% additional margin. It will be part of our 10% to 15% margin as we go forward and will be integrated into our pricing strategy with our contract manufacturers.
Mark Strouse, Analyst
Okay, thank you. Just a real quick follow-up, Manu. It looks like the pipeline metrics you provided take a more conservative view than what was reported previously. Can you give more color on what's going on there? Is that just regarding the likelihood of that pipeline and the timing?
Julian Nebreda, CEO
We have raised the bar on both the likelihood and the profitability lens. It is aligned with our general focus on profitable growth. So that's a bit of the color on how we thought about the pipeline for year-end reporting. We close to $8.5 billion of pipeline, with a perception for higher conversion than what we have previously estimated.
Mark Strouse, Analyst
Okay. Very helpful, thank you.
Julian Nebreda, CEO
Thank you, Mark.
Operator, Operator
Our next question comes from Julien Dumoulin-Smith with Bank of America. Your line is open.
Julien Dumoulin-Smith, Analyst
Hey. Good morning. It's a pleasure to chat here. Just to come back to cash. How are you thinking about '23 here and just about the cash burn with regards to adjusted EBITDA pressures? How are you looking at that from '23 through into positive cash generation?
Julian Nebreda, CEO
Sure, Julien. From a cash perspective, let me start. Our model is asset-light and is considering the cash bridge, which means as you reach EBITDA down to cash, you have very low CapEx. Our model continues to see cash usage driven principally by EBITDA performance plus some working capital considerations. In '23 we will maintain that model, but we believe in 2024 we will stabilize, approaching breakeven. By '25, we will start generating cash. There is a cash timing difference between the first half and the second half. We feel comfortable with cash in hand, plus our unused revolver to meet our cash needs as we approach cash-positive status.
Operator, Operator
One moment. Our next question comes from Ben Kallo with Baird. Your line is open.
Ben Kallo, Analyst
Hey. Good day, guys. Just first, maybe backing up to the competitive environment. I know you guys have only been there for 90 days. How are you seeing bids change just in terms of the number of competitors and why someone like an Orsted would pick you? How crowded is competition?
Julian Nebreda, CEO
Generally, as you go up the complexity scale, competition decreases. In simpler solutions, you see more competitors, but as you move to larger projects or those requiring specific characteristics, we find it easier to attract interest. We believe that our ability to manage complexity in projects, strong safety features and being a trusted long-term partner are key drivers in why customers like Orsted choose us.
Operator, Operator
Thank you. One moment for our next question. Our next question comes from Sean McLoughlin with HSBC. Your line is open.
Sean McLoughlin, Analyst
Good morning.. Thank you for taking my questions. Firstly, just on the IRA, you've talked about your expectation for the first orders in June '23. Will there be a lag? Are customers waiting until they understand the full complexities of the IRA over the next quarter or so?
Julian Nebreda, CEO
Regarding the IRA, our customers are working on stand-alone storage projects and looking for sites and electrifying connection points. I think there will be a gradual increase. The projects that will see the firmest results are those connected closer to transmission lines and substations that have capacity. So I think it’s a gradual transition, it may take some time to secure these projects for customers.
Sean McLoughlin, Analyst
Thank you. Is Ultrastack, your first success, targeted at the European market? Are the margins in Europe better than in the U.S. market?
Julian Nebreda, CEO
The Ultrastack is indeed a global product. We started in Europe with significant demand, but the U.S. market also presents major opportunities. We are working with a variety of customers to integrate our product into the regulatory landscape.
Operator, Operator
Thank you. Our next question comes from Pavel Molchanov with Raymond James. Your line is open.
Pavel Molchanov, Analyst
Thanks for taking the question. We talked a lot about the U.S. and Europe. Historically, you've had a strong presence in the Australian market. Can we get an update on demand in Australia?
Julian Nebreda, CEO
We have a very strong pipeline in Australia. We're working with clients, and I think you'll see some significant projects coming into our backlog for the year. This market appears very promising for our fiscal year.
Pavel Molchanov, Analyst
Given your vertical integration, is there any appetite to look at battery technologies beyond lithium-ion, such as nickel, zinc, vanadium, iron flow, etc.?
Julian Nebreda, CEO
Yes, in the short term, we currently use both LFP and NFC batteries in our solutions. Our platform is designed to be agnostic, allowing us to work with various battery technologies to meet customer requirements. We will consider advances in solid-state and sodium batteries as we expand.
Pavel Molchanov, Analyst
Understood. Thank you very much.
Julian Nebreda, CEO
Thanks, Pavel.
Operator, Operator
Our next question comes from Ryan Levine with Citi. Your line is open.
Ryan Levine, Analyst
Good morning. With the focus on profitability, has the company slowed its hiring? Can you provide color on your views regarding the tools to manage the cost structure?
Julian Nebreda, CEO
We are focusing on our India Technology Center, which has been successful. We are expanding that facility to support product development and supply chain efforts. Our back office continues aiding in our initiatives. We will continue to improve efficiency with our existing cost structure as we move forward.
Ryan Levine, Analyst
Thank you. And on that vein, can you provide color on the pace of adjusted gross margin recovery you're seeing for '23 from 3.4% in the recent quarter towards the double-digit target highlighted by the end of next year?
Manavendra Sial, CFO
Sure. There are two principal drivers behind our confidence in achieving higher gross margins compared to '22. Our early success reflects improved execution in the recent quarter. We are also signing new contracts at nearly double-digit margins, which will start to show impact in '23 with legacy projects being completed throughout the year. We expect to see increasing gross margins quarter-on-quarter as we roll out new contracts.
Ryan Levine, Analyst
Just to clarify: the step-up will come in the last quarter of the year?
Manavendra Sial, CFO
You will see improving gross margins each quarter as the new deals come on board and old contracts wrap up.
Ryan Levine, Analyst
Thank you.
Operator, Operator
Thank you. Our next question comes from Tom Curran with Seaport Research Partners. Your line is open.
Tom Curran, Analyst
Hi. Thanks for squeezing me in. Just one topic left for me. About two weeks ago, the California Public Utilities Commission approved PG&E's request to amend its mid-term reliability contracts for storage. Apparently, all four storage contracts have had their pricing rates adjusted, three have had their timelines changed, and one has had its size cut in half. Could you speak to the implications of these changes, especially regarding the approved increase in pricing for your current backlog and expected future awards for California?
Julian Nebreda, CEO
I am not aware of the specifics regarding the deficiencies you raised, so I will have to check with my sales team. There hasn’t been any material impact brought to my attention, but we will follow up. In general, we are seeing price increases in part due to the amendments.
Manavendra Sial, CFO
California is undoubtedly one of our most attractive markets and shows a lot of demand and opportunity. However, we don’t disclose numbers by state.
Julian Nebreda, CEO
Overall, two-thirds of our revenue historically comes from the Americas, and California leads within that segment.
Operator, Operator
Thank you. One moment for our next question. Our last question comes from Craig Shere with Tuohy Brothers. Your line is open.
Craig Shere, Analyst
Good morning. Thank you for squeezing me in. I have a quick near-term question and then a longer-term focus question. Near term, people seem positive about China opening up after zero COVID, but perhaps for some quarters, there might be disruptions. I wanted to inquire about your contingencies regarding those risks into next year on the supply chain.
Julian Nebreda, CEO
Regarding hydrogen, to a great extent, battery storage will play a role. The effective management of electrolyzers requires stable renewable sources. We see that this need will solidify over time. We are collaborating with customers to effectively manage these scenarios. We're confident in our risk management with the trends, and we're also working on diversifying our suppliers.
Craig Shere, Analyst
Thank you.
Julian Nebreda, CEO
Thanks everyone for participating. I apologize for the issues related to the sound; the combination of voice and mic didn't work very well. We will address the improvements in our process. The script will be posted on our IR website. Thank you again.
Operator, Operator
This concludes today's conference call. Thank you for participating. You may now disconnect.