Earnings Call Transcript - FLUX Q2 2021

Operator, Operator

Ladies and gentlemen, thank you for being here and welcome to Flux Power's conference call for the financial results and company update for the second quarter of 2021. At this moment, all participants are in a listen-only mode. Following the presentation, there will be a session for questions and answers. Joining us today are Ron Dutt, CEO of Flux Power, and Chuck Scheiwe, CFO of Flux Power. Thank you. Now, I would like to turn the call over to our first speaker, Mr. Justin Forbes. Please go ahead, sir.

Justin Forbes, Director of Marketing and Investor Relations

Thank you. Good afternoon and welcome to the Flux Power’s Financial Results Call. This is Justin Forbes, Director of Marketing and Investor Relations for Flux Power. Ron Dutt, our CEO, and Chuck Scheiwe, our CFO, will present the results of operations for the second quarter of fiscal year 2021 ended December 31st. Now, I will read our Safe Harbor statements. Our discussion may include predictions, estimates or other information that might be considered forward-looking. While these forward-looking statements represent our current judgment on what the future holds, they are subject to risks and uncertainties that could cause actual results to differ materially. You are cautioned not to place undue reliance on these forward-looking statements which reflect our opinions only as of the date of this presentation. Please keep in mind that we are not obligating ourselves to revise or publicly release the results or any revision to these forward-looking statements in light of new information or future events. Throughout today’s discussion, we will attempt to present some important factors relating to our business that may affect our predictions. You should also review our most recent Form 10-K and Form 10-Q for a more complete discussion of these factors and other risks, particularly under the heading of 'Risk Factors'. A PDF of our press release and financial tables can be viewed and downloaded from the Flux Power Investor Relations website at flexpower.com/investors. And with that, I will turn it over to Ron Dutt.

Ronald Dutt, CEO

Good afternoon and thanks Justin for the introduction. As we entered the New Year 2021, we look back at the quarter ending December 31st. As one that saw COVID raging at a peak and was filled with geopolitical turmoil reaching a theory with chaos at the capital. But for Flux Power, we continued our business momentum despite all that, and look forward to a much brighter year. Armed with vaccines, reduced restrictions and the ability at some point to meet face-to-face with our customers, potential new customers, suppliers, and investors. So, let me begin my remarks with a brief review of our business growth and revenue. Our fiscal year 2021 Q2 revenue increased by 79% to a record 6.5 million, compared to 3.6 million for the same quarter last year. This quarterly increase continues our trajectory of over 10 consecutive quarters of year-over-year revenue increases reflecting our pacing of increased penetration of current customers, in addition of new customers. While we have recently completed a full product line rollout of lithium-battery packs or forklifts, our sales mix of higher revenue, larger packs are increasing as they were launched after the rollout of smaller packs. For example, large packs as a percentage of sales for the year-ago quarter fiscal year 2020 Q2 was 36%, compared to 64% for this past quarter. And the larger packs typically have higher gross margins, similar to the automotive sector. Our revenue for the quarter also included revenue from battery packs sold to a global manufacturer of mobile, solar-powered electric vehicle charging stations. Our partnership with a leading manufacturer reflects ongoing repeat orders that began last March, as their sole lithium battery pack supplier. We are excited about the increasing demand for electric vehicle charging stations, including expanding the model for cities to provide these stations that do not require public grid infrastructure for installation. And it is a related synergy, as our forklift battery packs reach the end of life or warranty, we can repurpose those packs with minor refurbishment through a less rigorous application of stationary power, and provide the appropriate power ratings for that. Our strategy has been to entertain what we call natural product extensions, that our assembly lines can produce to meet our objective of building scale. These natural product expansions typically require only minor design effort to work in different applications. Our goal is to be the provider-of-choice for the large fleet, which translates to us building both capability and scale. Accordingly, we are also evaluating the sale of battery packs for robotic equipment, which is increasingly used in the industrial material handling environment. Turning to our customer base for fiscal 2021 second quarter. Our customer concentration was reduced from a year ago of 78% across two customers to 74% across four customers this quarter. We also sold to more than doubled the number of unique customers during the quarter, compared to a year ago. This concentration should continue to decrease, as we add new customers, having large fleets with ongoing orders. Orders for lithium-ion battery packs had primarily been for new orders of forklifts. Our packs are also designed to replace existing lead-acid batteries with no retrofitting required. We expect to see more of that demand as more customers adopt lithium. As for new products, we are now launching a completely redesigned lithium pack for the popular Ryder forklift, which reflects over 20% of electric fork unit volumes. Our new product reflects the second generation of modular design, incorporating improvements for assembling, product quality, serviceability, and customer satisfaction. And, of course, it comes with a UL listing certification, which is very important for large customers. Our relationships with forklift OEMs Original Equipment Manufacturers continue to grow, including potential business in the U.S., Canada, and Mexico. We continue to expand our relationships with the OEMs, which include our private label program, and approval by OEMs of our products for use in selling their new forklifts. Looking at the airline segment of our customer base, we are all aware that a casualty of COVID has been dramatically reduced air travel and demand for our airport ground support equipment pack has been largely put on hold. Although we understand that some of our customers in this sector are already planning for recovery later this calendar year. Turning to gross margins, we have given high priority to our gross margin, increasing from 9% in Q2 of fiscal 2020 to 23% in the second quarter of fiscal 2021. Much of the increase is attributable to improved vendor pricing due to volume increases and design improvements based on our depth of experience of product quality, and customer needs. In fact, we have over 8000 battery packs in the field purchased by customers, which has provided a broad range of both technical and customer-driven experience. Our strategy has always been to maintain the core competency of our technology, quality and service. In fact, not only core competencies, but we aim to be the leader in technology, quality and service. And to that point, we announced in a press release in December three patents pending for our proprietary battery management system, which is the brain of our battery pack. These patents are designed to do several things: one is to increase the battery life by optimizing the charging cycle. The second one is to provide users with a better understanding of the health of their battery and its use. And finally, to apply artificial intelligence or AI to predictively balance the cells for optimal performance. As a note on sourcing, we are monitoring very closely the sourcing parts for our packs such as battery cells, steel parts, electronic components, including circuit boards. We have all read headlines about containerships backed up at the Port of Long Beach. We’ve heard about higher steel prices and also shortages surrounding semiconductor chips. So far, we have not experienced any significant sourcing problems. But we continue to monitor the situation very closely. And dual sourcing of our components is key to our strategy. Now I comment about the ever-present COVID-19 pandemic. As reported previously, FLUX was designated as an essential business. As a manufacturer of power sources for material handling equipment, we have operated without interruption throughout the entire pandemic period. In fact, our internal contact tracing reflects no known transmission of COVID occurring within our facility. We had a modest number of employees contracting COVID outside of Flux Power facilities and we have implemented our policies following CDC and state guidelines on quarantine for those potentially exposed to the virus. I will now hand it over to Chuck Scheiwe, our CFO, to provide an update on our financials and the capital structure. He will also mention improvements to our balance sheet achieved during the quarter. Chuck.

Charles Scheiwe, CFO

Thank you, Ron. Regarding our balance sheet and financial positioning, we have accomplished several more positive steps. We discussed on our last earnings call in November, the NASDAQ uplisting and $12 million capital raised at closing. Additionally, during Q2, we raised $3.5 million utilizing an At The Market (ATM) offering. We have filed a perspectives to raise up to $10 million, so we have the ability to additionally raise up to $6.5 million on an opportunistic basis. We have found, as many others have, that the ATM offering provides a very efficient and cost-effective way to raise smaller amounts of capital. This is especially true in the current receptive market environment. Additionally, we now have research coverage by three investment banks, who are focused on the electrification sector. During the quarter, we were also able to achieve converting debt to equity of approximately $2.2 million, decreasing outstanding debts to $2.4 million on December 31, 2020. Further conversions in January reduced outstanding debts to $884,000. The only additional debt is the PPP loan of $1.4 million that we anticipate will be forgiven. We are still waiting for the loan forgiveness process to work its way through the Small Business Administration. As announced previously, we now have a $4 million line of credit with Silicon Valley Bank to provide potential working capital, supporting our rapid growth plans. The borrowing availability on the credit line is tied to Flux Power’s outstanding accounts receivable and inventory. And I would remind investors that we filed an S3 Registration of a $50 million shelf note in October, of which $10 million was allocated to the ATM. The rest can be very useful in our growth strategy. To add to Ron’s mission progress with our gross margin initiatives, including the current quarter reported at 23%. We believe continued implementation of our cost improvements, supporting higher gross margins, along with our revenue trajectory will drive us to our goal of becoming cash flow breakeven. Regarding operating expenses, we have stated before that much of our initial foundation building has been put in place as necessary to meet our sales and operational strategy of serving large customers. We continue to work on integrating best-in-quality with efficiencies to continue in our quest for industry-leading durability, technology, and ease of use. Now I will turn it back to Ron.

Ronald Dutt, CEO

Thanks Chuck. To conclude our remarks, I would like to comment on our progress with growing our business. It is heartening to see the increased demand for lithium power, and as highlighted with a very vigorous stock market demand surrounding EV and electrification this past year, particularly more recently, and we all know it is receiving very strong support from the new administration. We see Flux Power as bringing a clean energy value proposition for industrial and commercial solutions. Developing products that reduce tons of carbon dioxide solutions for our customers compared to current lead-acid and propane alternatives is very motivating. And that concludes our prepared remarks. And now I turn it over to questions.

Operator, Operator

Thank you. Our first question is from an analyst. Your line is open.

Unidentified Analyst, Analyst

Yes, congrats on the good numbers. Can you talk a little about your traction with large fleets in general and your private label kind of - how that has progressed during the quarter? And how you feel that this could continue over time?

Ronald Dutt, CEO

Yes, sure. Thanks, Alan. That is a key part of our growth strategy. The large fleets are not subscription income, it is like my experience in prior companies, you are as good as what your track record is. But what we are finding is for some of our very large key customers that in our investment and investor deck. If you achieve customer satisfaction with them on product quality and service, they do not want to change. So we are really targeting these large fleets that consist of 100,000 forklifts. And even though some of them may be dual-source, as I would do if I were them, we are after that 80%, and we are achieving it with several of our very, very large customers. We are building a reputation with those large customers. They have facilities all over the country, and that really helps in our efforts for new customer acquisition of large fleets, so it feeds on itself. And as the market certainly rapidly becomes more understanding of the benefits of lithium over lead-acid or propane, it fuels the fire in terms of increasing the adoption. So, our sales force is working on several large customers, some of which are household names. Some of these very large logistics companies have 1000s of forklifts. So, we appreciate them and bringing them on to represent repeatable sales for their fleets over time as they buy new forklifts, either replacing old ones, expanding new ones, or replacing dead lead-acid batteries. So we see good progress on that. We see continued momentum. The customers that we deal with largely are, I don't want to say unaffected by COVID, but certainly being part of logistics is necessary.

Unidentified Analyst, Analyst

Thank you. I have two other questions and then I will get in the queue. The first is, for the new forklift that you are going to be rolling out. I think I heard you say, it is like 20% of the market. Maybe just talk about how you think about your traction of that ramping up of when that will happen? And then secondly, is on operating expenses. Could you talk about it? If anything in the quarter would be viewed as sort of one-time possibly related to your financings or maybe your DNO insurance? Is there something about that, that the first year it is more expensive? It can go down so that we could think about that? And then just thoughts about operating expense growth going forward relative to how you think about that compared to revenue? Thank you.

Ronald Dutt, CEO

Yes. Thanks Alan. Good questions. And our new products for the end riders, we are extremely excited about that. We have leveraged some external expertise in this, along with our core engineering expertise and we really have seven good years of experience figuring out how to make these things durable and safe and focus on what the customer wants. So we think one is going to be well received. The sales ramp is always difficult to channel. We have examples of people buying without even a demo, others after a demo, some taking months, and some taking weeks. But I do think we are just very enthusiastic about that we have had that out into some selected hands so far, getting a great response on it. I think it hits all the key points that we have seen over seven years and what customers are really, really anxious for. So, I don't know that that is going to have a major impact within the next couple of months, but we do sales beginning in that ramping. It is a rider market for rider forklifts that this pack is for is a big segment of forklifts. You look at all these forklifts in our warehouses, no matter what they are doing. You will often find these riders, so we are very optimistic on that. Turning to operating expenses, good question on OpEx. We certainly look at that, trying to balance our cost and our margins. We have got margins objectives here, we know every time we have a call, you guys are asking about margins, and we ask ourselves about it all the time as well. And also the capabilities that we have here to engineer produce and service these large customers. So, with that, Chuck, can you give a little more color on this past quarter in particular?

Charles Scheiwe, CFO

Yes. Some one-time stuff going on in the quarter. We had legal and accounting tied to the shelf note filings, for the prospectus to get out there and stand for that. Prior to publishing, we were kind of holding back on some of the UL work, and we really accelerated that in the quarter. So, there is quite a bit of R&D expense in there. Development of the pack we are talking about right now had expense results with that getting through UL. So there are some one-time expenses in there. We did like every public company, we got hit with DNO insurance pay times. So, there were additional expenditures going forward, though, that are going to be there, but it is what it is. And we will start to see a little more extent going forward just from being up on NASDAQ, for public companies. We expect. Other than that, we are not looking at like, as we said, we are pretty well structured and got most of the pieces in place. The body that we are adding now would be production-related, and it is COGS going forward. So, we don't see large increases in the operating side.

Ronald Dutt, CEO

And just a footnote on that. On the production workers, they are relatively smaller percent, 5% or 10%, right Chuck? We are doing final assembly, as well. So, I hope that helps, Alan.

Unidentified Analyst, Analyst

That is great. Thank you so much. I will get back in queue.

Ronald Dutt, CEO

You bet.

Operator, Operator

Our next question comes from the line of an analyst. Your line is open.

Unidentified Analyst, Analyst

Good afternoon and congratulations on the quarter. Ron, just picking up on something you were just talking about a moment ago and wedding. It is something else that I thought was interesting. You mentioned getting a better feel for the features that customers want. Maybe rather than focusing on a specific model, kind of larger view, what are the features that customers increasingly desire? And I'm also thinking about the recent patents, as you highlighted when asking this question.

Ronald Dutt, CEO

Yes. Part of it is understanding the emphasis. And what it takes to really satisfy them once, is the forklifts typically operate in a very rugged, harsh environment, particularly the walking as much as any of them, but also like the in-riders that sit on forklifts not quite as much. But it is still rugged. It is not like a Tesla. If you own a Tesla, you baby it and take care of it. In a warehouse, workers just do not have the same incentive to take care of something that is not their own. So like the cars are, like forklifts need to be charged; they need to be charged on time, or it is like a car that runs out of gas, that can be disruptive and upgrades to our customers who are running oftentimes 7/24, two three shifts operations. They have an unasked for downtime. So if you are selling somebody a pack, and they are sitting down, you better figure out how not to have that downtime or how to support them with either a replacement or service in a timely matter. So that is impacted some of our software firmware to provide protection to the customer against low temperature and high temperature as well. Also serviceability, there is no water maintenance on these things, but I got a message saying that it doesn't require some kind of service sometimes. So our design is very well done in terms of making it serviceable by an uninformed and very inexpensively. So that is another big factor for customers. And I would say in terms of things that are coming to mind, I mean, if we get into the weeds, there is a long list of technical things, but one is the telemetry that we offer. All these large fleets want to know, what is the state of health, what is the remaining life? And, and also they have their service people or our service people to address those needs again, all to avoid downtime disruptions in the facility. Does that help?

Unidentified Analyst, Analyst

That helps a lot. And in fact, that kind of leads me to the one more cost questions that I wanted to ask about. The press release mentioned that you expanded your customer support capability and kind of linked us to having greater than 1000 battery packs in service. The first question is, do you expect this expense to continue to rise as more units are sold? Or is there some possibility, as you kind of implied in your remarks a minute ago, to maybe pass on a service requirement off to your large customers that may have people in-house that are capable of doing it?

Ronald Dutt, CEO

Yes. No, they are both good. We were very close to that. With our first packs that went out, I created a database that tracks every pack, every serial number of where it went, what were the key specs on? And so, we have been able to track failure rates and track other attributes of that. And we continue to track that relentlessly and quarterly track our warranty expense. It is not completely out of line at all, and that is how much we are spending on the warranty. In terms of service, our private label partner handled some of that, which is good. We have now several partners who are trained and certified to work on our packs. We want to expand that national coverage in the packs. We have used battery dealers and forklift equipment dealers to service our packs so that we do not have to create an infrastructure of Flux employees all over the country. So, we have been leveraging that and that has been productive, and we are continuing to expand our national service program, again with the idea driven by the metrics to absolutely minimize any downtime, and make it easy for customers to do work. If you are in the service world, there is level one service, which is the guy who does not have to be a mechanical engineer to identify or work on something. And so, we follow that principle of escalating it to a level two or three. Our people here handle the more difficult issues.

Unidentified Analyst, Analyst

Now, that was great. If I may ask one last one, hopefully not long. You mentioned in your remarks about robotic applications as perhaps a new area there for some battery packs without having to do a lot of modifications and manufacturing. I was just wondering, could you give us kind of an example of what you are talking about? I mean, normally when I think of a robot in an auto assembly line or something, they are gigantic and they probably need a lot of power, but I have also heard about robots in warehousing environments that may just grab something off the shelf and bring it to somebody at a stationary point. I was just kind of wondering where you are thinking about.

Ronald Dutt, CEO

More of the latter; I mean, I spent a good part of my career looking at those very, very complex and expensive robotic pieces of equipment. Now, you see, in a lot of the high-efficiency warehouses, beginning to really significantly increase the use of robots just to move a package one point to the other in the warehouse, tracks, they can have tracks on the floor and automate that. And when you go to the Annual Material Handling Trade Show, there is a lot of that there. And so we are interested in the kind of envelope that is required and the packs we have, I think, could be a good fit as part of our expanding of packs coming off our line to fit in those robotic solutions. So, I think there are some other robotic solutions we are looking at pretty closely as well. But it is certainly driven by this, look at the business case. What size of the market? What is the deal in the distribution market? How is it going to affect our assembly line? And what kind of margin can we get out of it? So, it is the usual thing we look at. So we are keeping our eye on our base business, but we are also looking at some of these applications.

Unidentified Analyst, Analyst

Okay, great, well thank you so much for the color, and again congratulations on the quarter.

Ronald Dutt, CEO

Thank you.

Charles Scheiwe, CFO

Thank you.

Operator, Operator

Our last question comes from an analyst. Your line is open.

Unidentified Analyst, Analyst

So, I wanted to ask two questions. First is regarding sourcing. Obviously, everybody's kind of wrestling with the same considerations. But one thing you do see is bigger customers gives you some leverage there. So, I'm wondering if you have a sense if you vote, one of these bigger customers is, does that help you in terms of your conversation with your suppliers? How are you thinking about that?

Ronald Dutt, CEO

Yes, sure. Yes, there are like 40 lithium suppliers in China, we source a tool over there in the top 10. When we initially reached out to them, they wanted a government-supported, as you probably know, mandate to become manufacturers and exporters of lithium batteries. So when they see that, if you look on our investor deck on the web, and see names like Pepsi, Caterpillar, and others, they have a gleam in their eye, and see big ongoing potential sales for the future of these lithium batteries. They are all oriented. Seven years ago, there were several who said, you know we would like to do something with you, but you are too small. We were just cracking the shell of the egg as we were starting up. And so they are all very attuned to what the potential could be. For us, with the focus on big names is very, very helpful.

Unidentified Analyst, Analyst

Indeed. And just on that note, have you said, and I'm sorry if I have missed. Can I assume your LFPI think - it doesn't make sense.

Ronald Dutt, CEO

Yes, we are LFP because we don't need that added energy density like Tesla does, like your HP laptops, or Apple laptops need or cell phones. The cost is lower, and you don't have the thermal management. So it is used by most of our competitors. I think have one competitor that offers some NMC which has cobalt in it, which provides that added. I think it is viable, but as we looked at it a number of times, we didn't think it makes sense for us.

Unidentified Analyst, Analyst

Yes, no, I agree. And second unrelated question, one of the areas we are starting to see some interesting movement in is the UPS market? I mean, I'm interrupting the power supply, not the company. Given your skill set, that would seem to be something that is a good fit. Have you worked in UPS at all?

Ronald Dutt, CEO

To be honest, we have not focused on that at all. We kind of looked at it, but I think we will turn probably more to that as we get a bit bigger. I think the pricing on that is going to require pretty significant scale. Honestly, we have our hands full with what we offer now. We have a product that we can differentiate ourselves on and just not a box with cells in it. It is the interface with motive power that really requires a lot of technology in terms of firmware and software to communicate and regulate. And so that is our focus right now.

Unidentified Analyst, Analyst

Yes, that makes sense. My final question is, are you all at the same location? Are you seeing anything else?

Ronald Dutt, CEO

No, no, we are prismatic and always have been prismatic. When we seven, eight years ago looked at 18650, and we could do it, we could switch to it at any time. We had some passing thoughts about it. I think there are rising production facilities in this country that make cylindrical cells, whether they are 18650 or the bigger ones, more economical. They are just grouped in modules, just like our prismatic cells, we would migrate to them. We are agnostic, as we said many times; we are looking for many institutions and companies around the world pouring money into finding the next best cell and applications. We have a CTO who is continually surveying the landscape on that and we will move to anyone that makes sense. But for now, the prismatic cells are pretty common in this material handling sector. Most of our competition does use a prismatic cell. There is a certain material handling aspect that is slightly better. But again, that is what we used and found it to be good. The pricing of sales is going down very significantly out there with the volume increases as world demand for lithium increases. So, the factories are building more at scale; there is more competition. All that bodes well for companies like us, with the price of those.

Unidentified Analyst, Analyst

Yes. Okay. Thank you. That is enough, for me being interrogated by me. So compliments on a great quarter.

Ronald Dutt, CEO

Thanks Joe.

Operator, Operator

Our last question comes from an analyst. Your line is open.

Unidentified Analyst, Analyst

I just wanted to follow up on, you talked about your relationship with Dean and I know that that is a company that is growing pretty fast. Could you comment on anything about how you think about potential growth opportunity and if it is considered material for your company overall? Thank you.

Ronald Dutt, CEO

Yes. Thanks Alan. It just so happened, they are located about a half-hour from us here in North County, San Diego, and reached out to us. They weren't too happy with their original lithium supplier, and we struck up a great relationship. We are both listed on NASDAQ. We are both focusing on this emerging sector here, but it is all kinds of opportunities. They, with their product, mobile charging stations that do not require some already installed grid infrastructure, are finding a receptive audience now. How fast this really gets traction and takes off in sales, none of us has that kind of crystal ball. But certainly, we see the value proposition there. We see the interest. They have already signed several contracts with cities to deploy these things all over the cities. And so, we are working with them to provide them the best possible form factor of our packs and performance specs for them. I think for us, it is what we call one of these natural product extensions that help us build scale with the infrastructure and process we have. The nice thing is we just sell to them; they worry about going to all the end customers, like municipalities and the government and some private customers as well. So, we are optimistic, but for us, it is frosting on the cake here. I think we are not planning on it for success. We want to get away from dependence on any one large customer or any one model because our technology and product are tailor-made for a number of uses to lend itself towards successful diversification.

Unidentified Analyst, Analyst

Could I sneak in one last question? You talked about that subsequent to the end of the quarter in January, two holders of your convertible debt which sum of the two shares? I just had a question about that. Does that increase your diluted share count or was that already captured in the roughly 400,000? And it is the way to look at it that we also get the cash; cash goes up by that amount?

Ronald Dutt, CEO

This was a non-cash transaction. It is just converting debt to equity and would increase the shares outstanding.

Unidentified Analyst, Analyst

Okay, but no impact on cash. Okay. Thank you. Thank you so much.

Ronald Dutt, CEO

Okay. Thanks for the questions, Alan.

Operator, Operator

And I don't see additional questions at this time. Speakers, do you have any closing remarks?

Ronald Dutt, CEO

No, we thank everybody for listening and thanks for your time. We are all here at Flux Power very excited about what is going on and glad to share the poll with you. Thanks again.

Charles Scheiwe, CFO

Thank you.

Operator, Operator

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect. Have a great day and stay safe.