Microvast Holdings, Inc. Q1 FY2023 Earnings Call

Thank you for standing by. This is the conference operator. Welcome to the Microvast First Quarter 2023 Earnings Call. As a reminder, all participants are in a listen-only mode and the conference is being recorded. After the presentation, investment community professionals have the opportunity to participate in the question-and-answer session. I will now like to turn the conference over to Monica Gould, Investor Relations for Microvast. Please go ahead.

Thank you, operator, and thank you for joining us today. Joining me on today's call are Mr. Yang Wu, Founder, Chairman, President, and CEO; Sascha Kelterborn, Chief Revenue Officer; and Craig Webster, Chief Financial Officer. Ahead of this call, Microvast issued its first quarter 2023 earnings press release, which can be found on the Investor Relations section of the Company's website. In addition, we have posted a slide presentation to accompany management's prepared remarks. As a reminder, please note that management will be making forward-looking statements on this call. These statements are based on current expectations and assumptions and reflect our view only as of today. They should not be relied upon as representative of our views as of any subsequent date and we undertake no obligation to revise for publicly released results or any revision to these forward-looking statements in light of new information or future events. These statements are subject to a variety of risks and uncertainties that could cause actual results to differ materially from expectations. For further discussion of the material risks and other important factors that could affect the Company’s financial results, please refer to Microvast filings with the SEC, including the Annual Report on Form 10-K filed on March 16, 2023, and the 10-Q filed earlier today. In addition, during today's call, we may discuss non-GAAP financial measures, including adjusted gross profit, adjusted net loss, and adjusted EBITDA, which we believe are useful as supplemental measures of Microvast performance. These non-GAAP measures should be considered in addition to and not as a substitute for or isolation from GAAP results. These non-GAAP measures have been reconciled to their most comparable GAAP metric, and the table is included at the end of our press release. Webcast replay of this call will also be available on the Investor Relations section of our company website. And with that, I'd like to turn the call over to Yang Wu for opening remarks.

Thank you, Monica. And thank you all for joining us today. I'd like to start off with a high-level overview of the quarter before providing some operational highlights. I will then turn the call over to Sascha Kelterborn, our Chief Revenue Officer, who will discuss some of our key wins in the quarter, followed by Craig Webster, our Chief Financial Officer, who will discuss our financials in more detail. I will then address our outlook for Q2 and the full year 2023 before opening the call up to your questions. Everyone, please turn to Slide 10 as I cover a few highlights from the first quarter. We posted 28.1% revenue growth in Q1 2023, delivering revenue of $47 million. This exceeded our expectations as our European commercial vehicle customers began initial production and supply chain issues began to abate. We achieved a double-digit gross margin, with more than an 8 percentage point year-over-year increase. We ended the first quarter with a record backlog of $486.7 million driven by a housing order intake of $62.7 million led by significant ramping sales to European customers. Our most significant achievement in Q1 was the completion of our Phase 3.1 expansion in Huzhou, China, which started the trial production of the 53.5Ah cell. We continue to increase our production rate in line with delivery schedules provided by our customers, especially in the U.S. and Europe. We estimate that this initial 2-gigawatt hour of cell module and pack capacity gives us that incremental $500 million in revenue potential. As you can see from our backlog numbers, there is already significant customer demand for our new product and over 50% of the full year capacity at Huzhou is already contracted. We expect customer orders and deliveries to increase as the year progresses and for that to be broad-based across the U.S., Europe, China, and Asia Pacific regions. With the Huzhou expansion now completed, our remaining capacity expansion plans for the year are centered on our new U.S. facility in Clarksville, Tennessee. This will initially have an annual capacity of 2 gigawatts hour. It is in full construction mode. We'll start our production targeted for Q4 of this year. We would also like to provide a quick update on the Mexico ESS container assembly hub we mentioned in our Q4 '22 earnings call. We have leased a new facility in Mexicali, which is very close to the U.S. border. And we are currently working on installing a container assembly line. We expect to ship the finished 4.3 megawatt-hour containers directly from our Mexicali facility starting in Q3 to customer project sites in the U.S., with many of those being located in the southwest Sunbelt. I would now like to turn the call over to our Chief Revenue Officer, Sascha Kelterborn, who will discuss some of our key wins and achievements in the quarter.

Thank you, Mr. Wu, and thank you all for joining us today. First, I would like to provide a little more color on our backlog. The record $486.7 million backlog includes orders from more than 80 customers representing a wide array of commercial vehicle platforms, many of which are or will be multiyear projects. Approximately 22% of our backlog is for European customers and 69% for U.S., including ESS projects. This gives us confidence that we will see significant growth in both regions over the coming quarters. Now please turn to Slide 7 as I cover a few highlights from the first quarter. Following our initial contract announcement in January of last year, we were very pleased to sign significant new orders with one of our largest customers for a new 53.5Ah battery pack, which will power the new cost-efficient, low-entry city and intercity bus platforms. Our high energy density battery packs on the bus range from 400 to 466 kilowatt hours, depending on the operators' mission requirements, and they set new standards in terms of energy density and charging capacity. Furthermore, we provide the crossway with up to 10 years of battery life. We received an order for over 350 units of our 17.5Ah battery pack from XCMG, a leading global OEM of construction equipment for hybrid trucks. We also received major orders from Gaussin for the U.S. business, where we supply our new 53.5Ah battery pack to their fully electric logistics vehicles. On the back of our announcement earlier this year with REE, we began SOP delivery of our 53.5Ah pack, which will power the Company's full electric P7 skateboard platform. The P7 is the industry’s flattest EV platform and is suitable for applications such as commercial trucks, school buses, walk-in vans, and delivery box trucks. Lastly, we started SOP deliveries of our 21Ah battery pack to CAMC, a leading Chinese heavy-duty truck OEM for the 49-ton contractor. Our initial order calls for the delivery of more than 50 system units. We continue to expect order volumes to increase over the course of '23 as we ramp up production of our 53.5Ah sales on our new fully automated line in Huzhou to meet customer commitments. Please turn to Slide 8, which highlights the significant growth in our European commercial vehicle business. Our European revenue almost tripled year-over-year in the first quarter and accounted for 22% of our total revenue, up from 7% of revenue a year ago. This growth was driven by the initial ramp of several customer projects, some of which I mentioned earlier, and aided by an improving supply chain. Going forward, we expect government-led initiatives such as the European Green Deal and U.S. planned to ban combustion engine vehicle sales by 2035, along with U.S. IRA initiatives, to continue to be significant drivers of electrification initiatives. For example, on the commercial vehicle side, a total of 27 governments have already pledged to achieve 100% zero-emission bus and truck sales by 2040. With that, I will turn now the call over to Craig to review our financial performance.

Thank you, Sascha. I'll spend the next few minutes discussing our Q1 2023 financial results. Please turn to Slide 10 as I summarize the main line items from our Q1 P&L. First off, we recorded our highest ever Q1 revenue of $47 million, an increase of 28.1% from $36.7 million in Q1 2022. The year-over-year growth was primarily driven by increasing deliveries from our European customer base, as Sascha just covered. Our gross margin rose to 10.3% in Q1 2023 compared to 0% in Q1 2022. After adjusting for non-cash settled share-based compensation expense in the cost of sales, gross margin increased to 13.5% in Q1 2023 compared to 5.2% in Q1 2022, an 8.3 percentage point improvement. The increase in gross margin was largely due to production efficiencies and a more favorable product mix. Operating expenses were $36.2 million in Q1 2023 compared to $43.4 million in Q1 2022. Similar to previous quarters, the largest contributor to the decrease in operating expenses was a decline in our share-based compensation expense, which totaled $16.4 million in the quarter compared to $26.2 million in Q1 2022. After adjusting for non-cash SBC expense in SG&A, our registered operating expense in Q1 2023 was $19.8 million compared to $31.1 million in Q1 2022. GAAP net loss was $29.6 million in Q1 2023 compared to a net loss of $43.8 million in Q1 2022. After adjusting for non-cash SBC expense and changes in the fair value of our warrant liability, adjusted net loss was $11.7 million in Q1 2023 compared to an adjusted net loss of $29.1 million in Q1 2022. You can see the impact of these adjustments in Slide 11, and reconciliations of these non-GAAP metrics to the most comparable GAAP metrics are included in the tables at the end of our earnings press release. Slide 12 shows a geographic breakdown of our revenue in Q1 2023 compared to the prior year period. As you can see, our European business showed a strong 270% year-over-year increase and accounted for 22% of our revenue, up from just 7% a year ago, as our key customers began serial production of their vehicles. As we outlined last quarter, a large percentage of our commercial vehicle backlog is from European customers who are launching electrified models for the first time. We continue to expect volume growth in our European segment, especially for the 53.5Ah cell as customers expand production. Our U.S. revenue increased 62% year-over-year. We continue to expect U.S. revenue to rise this year as we begin deliveries on our 1.2-gigawatt hour ESS project in the second half of the year. In 2024 and beyond, we expect U.S. revenue growth to remain strong as we begin to meet opportunities in the U.S. markets from our Clarksville facility. Once online, we expect Clarksville to have high capacity utilization based on current and anticipated orders. We should be in a position sooner rather than later this year where we will need to start planning for additional capacity. Our investment decisions to further expand capacity are always predicated on confirmed customer orders. Turning to Slide 13, we ended the quarter with cash, cash equivalents, restricted cash, and short-term investments of approximately $285.8 million. Net cash used in operating activities during the quarter was $11.2 million, which was primarily due to our operating loss. Negative free cash flow of $47.1 million was mostly a result of our CapEx spending on Huzhou 3.1 and Clarksville 1.8 in Q1 2023, which totaled $31.4 million. We also had capital expenditures totaling $4.5 million for improvements to our existing facilities and ongoing R&D projects. With Huzhou 3.1 now completed, we will be dilling down on the remaining balance of around $67 million for our project finance facilities to meet final milestone payments to contractors and equipment suppliers. We believe that all remaining payments will be satisfied from that facility. We closed the quarter with a record backlog of $486.7 million, up from $410.5 million in the fourth quarter. The 19% sequential growth in our backlog was driven by commercial vehicle projects in Europe. This once again underpins our strong conviction in our full year guidance and belief that 2023 is just the start of a number of high-growth years for Microvast. This sales growth is already allowing us to access more financing options. In Q1, we added a $17 million credit line, $9.5 million of which remains undrawn. Our sales continue to increase quarter-over-quarter. We expect to add an additional working capital credit line, and our current estimate is that we would add a further $20 million to $30 million by the end of Q2. Looking ahead, we estimate that full year capital expenditures will remain in the range of $180 million to $210 million and will primarily be used for ongoing construction in Clarksville. As we have mentioned before, we believe Clarksville can easily support some modest debt financing. The growth in backlog, the additional margin, and cash flow applied from the IRA and our proven experience in bringing online capacity will clearly resonate with lenders. With that, I'll turn it back over to Mr. Wu to review our outlook.

Thanks, Craig. Please turn to Slide 15. As a result of our outperformance in the first quarter, we are raising our annual revenue guidance for the full year from a range of $336 million to $358 million, representing year-over-year revenue growth of 65% to 75%, to a range of $348 million to $368 million, reflecting growth of 70% to 80%. For the second quarter, we expect the revenue to be in the range of $63 million to $67 million, up slightly from Q2 a year ago at the midpoint, driven by the continued ramp of our European commercial vehicle projects, as well as orders from customers in Asia Pacific. With a strong and growing backlog, we continue to have good visibility into 2023 driven by European commercial vehicle projects entering the production phase and the ramp-up for our energy storage business. We are seeing strong demand for our products globally and expect that our momentum will continue as customer volumes ramp up throughout the year and beyond. On last quarter's call, I noted that execution will remain critical to our ability to achieve our targets. We're very pleased with the progress we made in the first quarter, accelerating both revenue and backlog growth, completing our capacity expansion project in Huzhou, and driving substantial gross margin improvement. We continue to expect that the Inflation Reduction Act of 2022 will be important legislation for advancing clean energy initiatives and helping us reduce carbon emissions in the U.S. while creating even more exciting, direct, and indirect business opportunities for Microvast going forward. Our global Microvast team’s focused, oriented culture and our ability to execute has been a competitive advantage for Microvast. And I would like to personally thank the Microvast team for their tireless work and commitment to our mission before turning the call back over to the operator to start the Q&A session.

Operator Instructions] And our first question comes from Colin Rusch from Oppenheimer. Your line is open.

Congrats on the gross margin improvement here. I want to dig into that just another layer deeper. Can you talk a little bit about the yield trends you're seeing on the capacity as you ramp up the 53.5Ah cells and your ability to drive some incremental margin as you get up to some of that higher revenue levels?

Craig, do you want this question or do you want it after this question?

I'll take it, and Colin, good to hear your voice. Yes, what we're expecting to see later in the year as we move from Q1 was not fully automated production lines. We were not getting big volume discounts on 53.5. As we move forward later into the year, we're going to be producing off fully automated lines, gaining volume discounts, and high utilization, and we expect that to feed through to gross margin improvement, particularly in Q3 and Q4 because that's when the production schedules have really kicked in this year.

Excellent. And then with the U.S. facility, can you talk a little bit about equipment procurement and any sort of headwinds or progress that you're making in terms of buying that equipment and getting it into the country?

I can answer this question. The U.S. facility actually has 100% of its equipment sourced from China; the same suppliers and systems, just different certification that the U.S. requires, a UL certification. That's why we're slightly behind on equipment installation in the U.S. With the maturity of our China site and operational experience, we've overcome all the problems there. We think the U.S. installation will be much smoother, and we are still on track to build this factory before the end of this year.

And then just fine on the sales process, it's great to have the backlog number out here and appreciate that. But I'm curious about your ability to move customers through the sales pipeline and close incremental POS for the balance of this year. I assume some of that backlog is for 2024, but just want to get a sense of how much book-and-ship business you've got and how those customers are moving through the pipeline.

Craig, can you take this question?

Okay, Colin, great to hear you. Generally speaking, the backlog we have is probably for '23 and '24. And mainly we will have ongoing tasks, with fleet customers testing out new battery solutions. So, we expect to see increases within this year for sure. We started a lot of testing already in 2022, as you probably remember, and we have to go through certain tests sometimes by bigger customers. We expect to see effects in Q3 and Q4 for sure.

And our next question comes from Amit Dayal with H.C. Wainwright. Your line is open.

Thank you, and good afternoon everyone. Good to see the execution comes through. Just on the CapEx guide, is $35 million primarily targeted towards the Clarksville facility?

Amit, that's right. I mean, all the spending going forward now is for Clarksville. As you saw in the slides, Huzhou was done, and we've got remaining milestone payments to contractors, but they will get funded from the undrawn facility. What's really good about Clarksville is the level of engagement that we're getting from customers, and we're seeing that feed through into that backlog increase. In terms of lenders, there's a lot of lender interest because what we're proving is that we can grow the backlog. The backlog in the U.S. benefits from the IRA credits, and we're experiencing this growth, and it puts us in a really strong position to close project funding. We don't want to be in the equity market, and we're able to do that because we're clearly growing revenues and backlog this year.

We are experiencing strong capacity in China, which reflects the feedback we are receiving from customers and is contributing to the increase in backlog. There is significant interest from lenders because we are demonstrating our ability to grow the backlog. The backlog in the U.S. benefits from the IRA credits, and this growth enables us to secure project funding effectively. We prefer not to access the equity market, and our clearly increasing revenues and backlog this year position us well to avoid that.

Amit, you're breaking up. Can you repeat the question?

This is the conference operator. Mr. Dayal, I assume you're on a cell phone; maybe you can get to a window or find a clearer line of sight and try again.

Operator, is there anyone else ready for a question?

I think we've got Mr. Dayal.

Hi, this is Cassidy from the Investor Relations team. We've gotten some questions that I can pose in the meanwhile while we wait for him to come back. The first is beyond ESS, what commercial vehicle projects do you have in the U.S., and when should we expect them to begin to ramp?

Cassidy, that's a great question which came from the audience. Generally speaking, we have a couple of upcoming commercial vehicle and special vehicle projects which are coming, as I mentioned already to Colin, mainly in Q3 and Q4. We are still under NDA, but we think that we will be able to disclose quite soon also the project names with our customers together.

Perfect, and one more that we have received is can you talk us through what the competitive market is for your 53.5Ah cell and where your competitors stand compared to you in the process of ramp-up?

I can answer this question. You know the 53.5Ah cell is dedicated to the commercial vehicle space. We designed and developed this for over three years. It took a very long time to test and certify this battery. This battery offers much longer lifespan and a cycle life that is two to three times longer than competitors' batteries, while still maintaining very high energy density required for commercial vehicles. Commercial vehicles need much longer life batteries compared to passenger cars. We haven't seen a competitor reach our performance so far.

I am seeing no further questions. I'll turn it back to Mr. Wu for closing comments.

Okay. Thank you all for joining today's meeting. Wish everybody a good day, a good night, and pleasant dreams. Thank you.

That concludes our conference call. Thank you for joining and have a pleasant evening.