Earnings Call Transcript - SHLS Q4 2023

Operator, Operator

Good afternoon and welcome to Shoals Technologies Group Fourth Quarter 2023 Earnings Conference Call. Today's call is being recorded and we have allocated one hour for prepared remarks and Q&A. At this time, I would like to turn the conference over to Mehgan Peetz, Chief Legal Officer for Shoals Technologies Group. Thank you. You may begin.

Mehgan Peetz, Chief Legal Officer

Thank you, operator and thank you everyone for joining us today. Hosting the call with me are CEO, Brandon Moss; and CFO, Dominic Bardos. On this call, management will be making projections or other forward-looking statements based on current expectations and assumptions, which are subject to risks and uncertainties. As you listen and consider these comments, you should understand that these statements, including the guidance regarding first quarter and full year 2024, are not guarantees of performance or results. Actual results could differ materially from our forward-looking statements, if any of our assumptions are incorrect or because of other factors. These factors include, among other things, the risk factors described in our filings with the Securities and Exchange Commission, including economic, market and industry conditions, defects or performance problems in our products or their parts, including those related to wire insulation shrinkback issues, failure to accurately estimate the potential losses related to such matters and failure to recover those losses from the manufacturer, decrease demand for our products, policy and regulatory changes, supply chain disruptions and availability and price of our components and materials. Although we may indicate and believe that the assumptions underlying the forward-looking statements are reasonable, any of the assumptions could prove inaccurate or incorrect and therefore, there can be no assurance that the results contemplated in the forward-looking statements will be realized. We caution that any forward-looking statement included in this discussion is made as of the date of this discussion and we do not undertake any duty to update any forward-looking statements. Today's presentation also includes references to non-GAAP financial measures. You should refer to the information contained in the company's fourth quarter press release for definitional information and reconciliations of historical non-GAAP measures to the comparable financial measures. With that, let me turn the call over to Shoals CEO, Brandon Moss.

Brandon Moss, CEO

Thank you very much, Mehgan, and good afternoon, everyone. I'll start today's call with some key highlights from the full year 2023 and the fourth quarter. I will follow with an overview of solar market conditions before discussing our plan to expand and relocate operations to a new facility in Portland, Tennessee. I will then provide an update on the wire insulation shrinkback warranty investigation and remediation, and finally, wrap up with a discussion of our strategic priorities before turning it over to Dominic, who will review our financial results and discuss our outlook for 2024. 2023 was another year of tremendous execution for Shoals, with revenue growing approximately 50% for the second consecutive year. In fact, Shoals has grown revenue at a 41% CAGR since 2020, significantly outpacing the industry's growth of 17% over the same period. Our ability to drive operational leverage as we grew revenue contributed to full year adjusted gross profit increasing 75% compared to the prior year. Adjusted EBITDA was up 86% year-over-year, while full year adjusted gross margin and adjusted EBITDA margin both expanded almost 700 basis points compared to the prior year. Notably, with full year 2023 adjusted EBITDA of $173.4 million, we achieved the high end of our outlook for 2023 adjusted EBITDA, which was raised when we reported third quarter earnings. As Dominic will discuss in greater detail, cash flow from operations was $92 million, up 133% from 2022. We are pleased that Shoals has transitioned into a company with strong cash flow generation. Turning to fourth quarter highlights, Shoals had another strong quarter with revenue growing 38% year-over-year to $130.4 million. Backlog and awarded orders were $631.3 million, up 47% year-over-year, and approximately flat sequentially, reflecting continued strong demand for our products. The company added over $128 million in orders in the quarter, which was an increase of 147% year-over-year. Further, our quote volumes remained very strong, growing 154% year-over-year. In addition, the number of quotes is also growing while the size of the jobs continues to rise. Subsequent to the quarter end, we bolstered our domestic leadership position after entering into a master supply agreement with a new top solar EPC. International markets continue to develop as a growth driver, representing more than 13% of our backlog and awarded orders. Moving now to the solar market landscape, the long-term fundamentals for solar are incredibly strong. Demand for energy is steadily rising according to the EIA. Analysts expect U.S. demand for electric power to continue growing through 2050, driven by sustained economic growth and the shift toward electrification. Solar offers the lowest levelized cost of energy because it requires zero fuel costs. We expect the price of solar will continue decreasing due to reduced cost of solar panels, battery storage, and additional scale. We believe this trend will drive solar market growth in the coming decades. In fact, U.S. solar generation capacity is expected to double by 2030 and nearly double again by 2050. In addition, according to the EIA's short-term energy outlook published in January, solar is expected to be the leading source of new electricity generation over the next two years, with 36 gigawatts of new solar capacity across all solar segments coming online in 2024 and an additional 43 gigawatts in 2025. This incremental capacity is expected to boost the solar share of total generation to 6% in 2024 and 7% in 2025, up from 4% in 2023. Shoals is excited to be a leader in the energy transition space with our market-leading solutions in electrical balance of systems. While the long-term solar market outlook is very strong, in our core utility-scale segment, project delays have contributed to slowdowns reported by our utility scale peers in Q2 and Q3 of last year. Higher financing costs, extended equipment lead times, particularly for transformers and switchgear, and long interconnection queues are all exacerbating industry weakness. The industry slowdown is significant and will impact our results in the first half of 2024, but we expect this trend to reverse over time. Looking at EIA data on project delays, there's been a significant increase over the course of the last two years, with delayed projects increasing from 36% in the first quarter of 2022 to 62% in the fourth quarter of 2023. As Dominic will discuss, we're providing first quarter guidance to assist analysts with modeling. While short-term hurdles exist, we remain confident in the long-term fundamentals. The undeniable ongoing shift toward renewables, driven by cost competitiveness and sustainability goals, creates a significant growth opportunity for the industry. We believe we're well-positioned to capitalize on this trend through our focus on utility scale projects and proactive approach to mitigating near-term challenges. Additionally, as we discussed on our last call, we see a compelling opportunity in the community scale commercial and industrial segment. Though these projects are smaller than utility scale, they share many of the same challenges, including high labor costs for deployment and supply chain challenges that our technology was developed to address. We believe our value proposition will remain attractive even in the context of smaller projects. To that end, we're excited about the Department of Energy's recent pledge to meet the National Community Solar Partnership target of 20 gigawatts of community solar by 2025, which is almost triple today's 7 gigawatts. Though it's still early days, we think this could provide an exciting opportunity to offset the delays and push-outs in utility scale with projects that have a faster turnaround. We are currently building out focused teams to take advantage of this opportunity. Moving to international markets, the landscape is evolving. Following COP28, there's been a fresh push for renewables as nations have realized they are not on target to meet emissions goals. This has resulted in some nations tripling their commitments by 2030. While the outlook for global growth in 2024 is more muted, primarily due to China's expected slowdown and a stabilizing European market post-energy crisis, we see bright spots. Specifically, the Middle East and Africa are showcasing significant growth potential. We're actively exploring opportunities in these emerging markets, confident that our expertise translates well to new geographies. As we have discussed, international markets have the potential to be a major growth driver. In fact, as of year-end, international represented more than 13% of our backlog in awarded orders. We remain largely focused on specific higher growth markets within Europe, Africa, Latin America, and Australia, which combined are more than double the size of the U.S. market with a growing rate of 9% CAGR through 2026. We are pleased to report our sales team is making significant progress, recently securing projects in Angola, Colombia, Nigeria, Peru, and Serbia. We expect growth to accelerate as international EPCs begin to appreciate the value proposition of our entire product suite. Looking ahead, we will continue strategically growing our international team and investing to support growth and further customer traction. Now turning to our recent announcement to invest in a new facility in Portland, Tennessee. Over the next five years, Shoals is committed to investing a total of $80 million to expand and centralize our existing manufacturing and distribution operations into a new 638,000 square foot state-of-the-art facility near our existing facilities. Since the beginning of last year, we have been focused on increasing production capacity and enhancing operational efficiencies to meet the growing demand for our products. We believe that the new plant will allow us to achieve these objectives and marks a critical milestone in our journey. We are confident that it will pave the way for the company's continued long-term growth. We are also thrilled to be investing in our workforce, becoming an employer of choice in the region, and further contributing to the thriving economic landscape of Tennessee. We are grateful for the support of Governor Lee and the Tennessee Department of Economic and Community Development and look forward to a strong partnership in the years ahead. It's important to note that while this is our most significant capital investment, once complete, we expect the new plant will ultimately drive operational efficiencies. In addition, we are committed to keeping Shoals asset-light. I will now provide an update on where we stand with our investigation and remediation of the wire insulation shrinkback warranty issue. As disclosed in our third quarter earnings call, we filed a complaint to recover damages caused by defective wire that Prysmian Cables and Systems USA LLC sold to Shoals between 2020 and approximately 2022. Through December 31, 2023, Shoals had already expended $4.7 million of cash in the identification, repair and replacement of defective wire and is seeking full recovery from Prysmian for those as well as future expenses related to the issue. Because of the pending litigation, we are limited in what we can discuss publicly. However, there are some important updates we can provide. First, initial wire insulation shrinkback issues were found on at least 20 sites out of the approximately 300 sites that have had the defective Prysmian red wire. In addition, after we filed our complaint and customer service notices were issued to those approximately 300 sites, we were informed that approximately 10 incremental sites experienced shrinkback. Second, of those approximately 30 sites, 4 sites did not display insulation shrinkback upon inspection. In situations where there was shrinkback, we are working to remediate the issue as quickly as possible. Finally, as we continue to analyze all of the incoming information and remediation projections, we have determined that the range of expense we communicated last quarter is still appropriate. Dominic will cover in further detail. Shoals is committed to quality. As we work to remedy the Prysmian defective wire issue, our top priority is taking care of our customers. We are working to remedy the issue as efficiently as possible and seek to accelerate remediation wherever we can. As highlighted by our new top EPC engagement, we want to emphasize that our underlying business remains very strong and we expect it to continue to flourish through the resolution of this issue. Moving to the patent infringement complaints filed by Shoals with the ITC in May of 2023, the evidentiary hearing is scheduled for March with a final ruling expected in November. As previously stated, we remain committed to vigorously defending and protecting our intellectual property rights. I'll now wrap up by highlighting our strategic priorities for 2024. We will continue to pursue markets that support global electrification and are impacted by skilled labor needs and supply chain constraints. Our core competency of engineering prefabricated plug-and-play solutions at scale aligns well with market needs. By delivering these high-value prefabricated solutions, we can protect our margins while providing a much higher quality product. Shoals will continue to protect and grow our core utility-scale solar business. This includes growing share within our domestic solar base and accelerating growth in international markets. We also expect to accelerate our diversification into new markets that support electrification. This includes leveraging our very strong balance sheet and cash flows by investing for both organic and inorganic growth. In fact, despite accelerating remediation efforts for the defective Prysmian wire for which we plan to spend $31.1 million in 2024, we still expect to increase our cash from operations by 20%. As we make these investments, we will continue to drive operational excellence and build our organizational capacity to maintain our leadership position in domestic utility-scale solar and grow to a leadership position in newer market segments. Growth in new markets will require some reinvestment of profits from our core business, which we will do prudently as we strive to generate an attractive return on our investments for our shareholders. Shoals is an innovation leader with strong product development capability. While the industry is going through a period of transition, our long-term future is bright with record quoting activity and strong orders. As market conditions improve, we expect Shoals will continue to take share and outgrow the market for many years to come. I'll now turn it over to Dominic, who will discuss fourth quarter 2023 financial results.

Dominic Bardos, CFO

Thanks, Brandon, and good afternoon to everyone on the call. Turning to our results. Fourth quarter net revenue grew 38% to $130.4 million versus the same period in 2022. Our higher sales were driven by increased demand for our products in domestic utility scale solar projects. Gross profit increased to $55.4 million compared to $40.4 million in the prior year period. Gross profit as a percentage of net revenue was 42.5% compared to 42.7% in the prior year period, primarily due to higher labor costs. The increase in labor was slightly offset by increased leverage on fixed costs. During the quarter, we did not incur wire inflation shrinkback warranty liability expenses and our cost of goods sold, so there was no adjustment to GAAP gross profit necessary during the period. I would like to point out that we have added a quarterly reconciliation of 2023 adjusted EBITDA to the appendix of our investor presentation. This reconciliation of adjusted EBITDA illustrates the quarterly impact of the shrinkback expenses. As you may recall, we disclosed the Q3 and full year-to-date impact through Q3 last quarter, but we did not individually break out the elements incurred in the first and second quarters of 2023. I hope you find this additional information helpful. Further, as Brandon mentioned earlier, we continue to analyze all new information regarding the potential loss related to the defective Prysmian wire. While we investigated approximately 10 additional sites during the quarter, findings were consistent with assumptions incorporated in the remediation range we communicated last quarter, which is $59.7 million at the low end and $184.9 million at the high end. During the quarter, you will see that we incurred an additional $0.7 million of litigation expenses associated with this issue in the SG&A section of our income statement. That is why our adjusted EBITDA reconciliation indicates $0.7 million associated with the installation shrinkback issue in the fourth quarter. Also during the quarter, we did expend $1.7 million in cash as we ramped up remediation efforts. You will see that the remaining warranty liability on our balance sheet is now $54.9 million. We believe we are positioned to move faster on remediation efforts in 2024, so we have reflected a current portion of the remaining liability at $31.1 million. This represents the amount of cash we estimate we will consume during the next four quarters to continue remediation efforts. Shifting to selling, general and administrative expenses for the fourth quarter. We incurred $21.5 million of SG&A expense compared to $14.9 million during the same period in the prior year. The year-over-year increase in general and administrative expenses was primarily related to higher non-cash stock-based compensation, legal fees related to the patent infringement and wire installation shrinkback complaints, and planned increases in payroll expense due to higher headcount supporting growth. As I mentioned earlier, $0.7 million of this expense was specifically related to the wire installation shrinkback litigation. Net income was $16.6 million in the fourth quarter compared to $118.3 million during the same period in the prior year. The prior year period benefited from a $110.9 million gain on the termination of the tax receivable agreement. On a related note, we completed the simplification of our legal structure in Q4, transitioning from the prior up C structure to a traditional C corp. Adjusted EBITDA in the fourth quarter increased 30% to $39.1 million compared to $30.1 million in the prior year period. Adjusted EBITDA margin was 30% compared to 31.8% a year ago, reflecting lower gross margin partially offset by operating expense leverage. I want to take a moment to clarify that when we raised our outlook for 2023 adjusted EBITDA to $165 million to $175 million during the third quarter earnings, we did so on the basis that year-to-date adjusted EBITDA was $134.3 million, implying a range for fourth quarter adjusted EBITDA of $30.7 million to $40.7 million. Said another way, fourth quarter adjusted EBITDA of $39.1 million came in at the high end of the implied fourth quarter range of $30.7 million to $40.7 million. I hope this and the additional detail in the investor deck materials assist you in tying out the numbers. Adjusted net income was $21.3 million in the fourth quarter compared to $25.0 million in the prior year period. Cash flow remained strong in the fourth quarter with $26.4 million of cash flow from operations offset by $2.9 million of investment in capital expenditures. For the full year, cash flow from operations grew 133% to $92.0 million. After capital expenditures of $10.6 million, we used the majority of the remaining cash to pay down our revolver and term loan facilities. We are pleased to have continued our trend of improving our leverage ratio again during the period. As of December 31st, 2023, we had $631.3 million in backlog and awarded orders, an increase of 47% year-over-year as the company added over $128 million in orders during the period. It's important to note that some international orders have longer lead times than domestic orders and we are also winning domestic jobs that extend beyond our historical revenue cycle of nine to 13 months to realize revenue from awarded orders. Approximately $175 million of our backlog and awarded orders at year-end have delivery dates beyond 2024. Turning now to the outlook. Given the current headwinds in the utility-scale solar market, some of our customers have experienced project delays. As a result of the current slowdown, we are providing an outlook for the first quarter to help set expectations, but note that it is not our intention to provide quarterly guidance on an ongoing basis. Based on current business conditions, business trends, and other factors, for the quarter ending March 31st, 2024, the company expects revenue to be in the range of $90 million to $100 million and adjusted EBITDA to be in the range of $15 million to $20 million. Based on current business conditions, business trends, and other factors, for the full year 2024, the company expects revenue to be in the range of $480 million to $520 million; adjusted EBITDA to be in the range of $150 million to $170 million; adjusted net income to be in the range of $90 million to $110 million; cash flow from operations to be in the range of $100 million to $120 million; capital expenditures to be in the range of $15 million to $20 million; and interest expense to also be in the range of $15 million to $20 million. Further, in thinking about the cadence of the year, we expect second quarter revenue to see modest improvement over the first quarter, but still have an adjusted EBITDA decline year-over-year prior to achieving operating leverage in the second half of the year. While it is always our goal to grow profitably, we will continue to invest in the business to maintain our leadership and position Shoals to take advantage of long-term opportunities to create shareholder value. To that end, we are continuing to invest to scale the business. Finally, with the significant cash flow we expect to generate in 2024 and beyond, Shoals has new balance sheet optionality to further drive shareholder value. Specifically, with 2024 cash flow from operations of $100 million to $120 million, up 20% at the midpoint, our capital deployment will continue to emphasize further deleveraging of the balance sheet and growing the business both organically and inorganically. With that, I'll turn it back over to Brandon for closing remarks.

Brandon Moss, CEO

Thanks, Dominic. I'd like to close by thanking all of our customers for their confidence in Shoals, our employees for enabling us to effectively serve our customers, and our shareholders for their continuous support. And with that, thank you, everyone. I appreciate your time today. We will now open the line for questions.

Operator, Operator

Thank you. We will now begin the question-and-answer session. Our first question comes from Mark Strouse with JPMorgan Chase & Company. Please go ahead with your question.

Mark Strouse, Analyst

Yes, good evening. Thank you very much for taking our questions. Wanted to start with the 2024 guide. Can you just talk about the visibility that you have into the back-end loaded year? And are there any cancellations, first of all? And then the delays that you're seeing, are they kind of indefinite delays? Or do you have fixed start dates in mind?

Brandon Moss, CEO

Mark, hey, it's Brandon. Thank you for the question. I'll start maybe in reverse order of your questions. First and foremost, want to congratulate the team for a fantastic year. Revenue up 50%. Earnings up 86%. Another significant year of improvement in operating cash. So, a fantastic year to build from into 2024. As far as project delays go, look, we see an industry-wide issue. We're seeing it across the market. We believe it's transitory. The issues are the same as we've heard here in recent quarters: project financing, supply chain, interconnections, and IRA confusion. Because of this, we've seen some reductions to multi-year growth rates in industry publications. We've also looked into EIA data specifically. We're seeing project delays going from 36% in early Q1 of 2022 to 62% in the backend. So, really, what's happening for us is you're seeing a longer time from quote to purchase order. As we talked about in the prepared earnings, our order book is still robust. But we did see signs of slowdowns with project push-outs in late fourth quarter and in January. It may be important to say we have seen improvement in our quote to order conversion in February. It's too soon to call this a definitive recovery, but we have seen some improvement in February. So to the question, not necessarily order cancellations. It is just taking us longer to move from a quote stage to an actual purchase order. Dominic, maybe I'll kick it to you to answer the first part of the question.

Dominic Bardos, CFO

Yeah. With regards to the guide, one of the things that we take pride in is being able to build a bottoms-up guide as we look at our business. In 2023, I am really pleased that the guide that we issued at the beginning of the year we achieved within that range on every metric or exceeded. So as we look at our project-by-project workload, some of the push-outs that we've referred to have perhaps shifted quarters. We normally would have projects move in and out of quarters, but we did see some heavier movement out of Q1 and Q2. With regards to our backlog and book of business and our awarded orders at the end of the year, we always enter every year with some go-get. We feel like we have an opportunity to go chase additional revenue where we can book and build within a year. So we still have an opportunity from a sales standpoint. As Brandon mentioned, we've seen some improvements here recently in the quarter that we wanted to call out where our activity in February was doing really well. And so I think the shorter answer would be we do look at our projects, we look at our book of business, and we look at those jobs that are available to us in our pipeline that have not yet been awarded. We take all that into consideration as we issue our guide.

Mark Strouse, Analyst

Okay, that was helpful. Thank you. I think the order activity speaks for itself, but I would like to hear your latest thoughts on market share dynamics. Is this possibly a temporary pullback in the market? Is it leading to any aggressive pricing from your competitors? Thank you.

Brandon Moss, CEO

No, I appreciate the question. The issue is market-driven, not market-share driven. Our value proposition remains extremely strong. And I think we've shown a great example of that by adding another top EPC here after the first of the year. Our solutions of being more cost-efficient to reduce capital spend, reducing operating costs by delivering higher quality and durability after install, and our ability to be more sustainable on projects because we reduce the need for trenching. I think all holds very strong still in the marketplace. Our current customer base understands that value proposition and remains committed to us.

Operator, Operator

Thank you. Our next question comes from the line of Brian Lee with Goldman Sachs. Please proceed with your question.

Brian Lee, Analyst

Good afternoon, everyone. Thank you for taking my questions. I wanted to follow up on Mark's comments. Dominic or Brandon, could you provide some clarity on the current situation? It seems like things are being pushed out further into the second quarter compared to the first quarter. What has been the typical timeframe for backlog conversion and cycle time before this year? Additionally, what are you presently observing and how does that influence your guidance for 2024? Dominic, you also referred to the book and burn business or get-go business, which I recall has been around 15% each year. The guidance you're offering today suggests $75 million. Is that still the case this year, or are there changes in what you're seeing and incorporating into the numbers?

Dominic Bardos, CFO

Sure, Brian. There are several aspects to consider here. From the project perspective and the timelines we are experiencing, we have noticed an increase. Brandon pointed out the EIA data indicating project delays. In Q1 of 2022, 36% of projects were facing delays, and by the end of the year, that figure rose to 62%. Consequently, our timelines have extended. Previously, we would have stated that awarded orders translate into revenue within nine to 13 months, but that timeline has definitely lengthened. The duration from quoting to actual purchase orders and revenue has increased as a result. When we examine Q1 and Q2, where we initially anticipated delivery of awarded orders in the first half of the year, we now see that some of those projects might be pushed to Q2 and Q3 or even Q3 and Q4. We are experiencing delays, but these projects have not been canceled; they remain part of our business portfolio. This is one reason I am cautious about framing our backlog in terms of a percentage. We can win a significant number of projects each year. As projects grow larger, naturally, that number will increase. However, as our portfolio expands, it becomes more challenging to consistently achieve a 15% or 20% win rate year after year. We concluded the year with a $631 million backlog, of which $175 million extends beyond 2024. We have opportunities to pursue for the remainder of this year, and we believe this is a key factor for a potential uplift in the second half. Our typical sales process does require time to secure jobs, collaborate with EPCs, finalize designs, obtain purchase orders, source materials, and complete construction. This process takes time, but we still have chances to accomplish this in the first half, which is why we provided the guidance that we did.

Brandon Moss, CEO

Brian, it may also be worth mentioning just the international business with backlog and orders growing to 13%, the cycle times on those projects tend to be longer as well. So I think you've summed it up well that this project push-out is moving to the right approximately two quarters.

Brian Lee, Analyst

Okay. That's super helpful, guys. Maybe also on the guidance, just looking at the EBITDA, if we strip out Q1, it seems like the guidance for 2024 implies you'll be doing EBITDA margins well north of 35%, maybe even 40% range in the second half of the year. That's like 500 basis points higher than 2023 levels. Is that fair, first off? And then, I guess, what's sort of the driver there? Is it just gross margin expansion? Is it the OpEx leverage? Maybe speak to some of the drivers and moving parts because it seems like the background implied margins are quite uniquely higher than what you saw for most of 2023.

Dominic Bardos, CFO

Yeah. So the operating leverage is first and foremost going to be critical. In the first half of the year, we are experiencing with the lower revenue, perhaps even negative growth year-over-year in the first half of the year, we are definitely going to be losing some leverage. We always look at all of our SG&A expense and where the investments are going to be made from that point down the line. And so it's a little bit of both. We're really gaining the leverage. There were some unusual, I would say, SG&A things that we had put into place last year. We completed some projects. We're not going to repeat those things. We've simplified our legal structure. We've gone through the filings and the secondary offerings that were necessary in the first half of the year. We're securing, we're reviewing all of our external spend and looking at SG&A to make sure it's as efficient as possible to drive value. So we do believe that the EBITDA margins that we're projecting that are implied for the back half are achievable. That's what we're going after.

Brian Lee, Analyst

Last question for me, if I may. Regarding the shrinkback issue, you recorded a charge in Q2, a larger charge in Q3, and no charge in Q4. You also mentioned that the overall liability range remains unchanged. How should we understand this? Does it imply that you feel this situation is under control? Should we expect that the only impact going forward will be the cash flow related to the necessary accruals on the P&L? Is it more contained at this point, considering the results from this quarter? Any clarification would be appreciated.

Brandon Moss, CEO

Yeah, Brian, I would say because of our litigation we're always limited in what we can say here. We are trying to disclose some more information here than I think we have in previous quarters. What I think is important to note when we originally notified customers, we disclosed that approximately 20 sites out of 300 sites that had the Prysmian red wire on it were displaying shrinkback. Since we notified the customers, we've had an additional 10 sites that required some sort of additional inspection, and four of those sites displayed no evidence of shrinkback wire. So we continue to work on our remediation effort of known sites. We are working with customers, their timelines, and obviously our internal production timelines. We believe we have the opportunity this year to pull some remediation efforts forward a bit. I think as we've disclosed in the prepared remarks, we plan to spend $31.1 million this year on that remediation efforts. So that's where things stand today.

Dominic Bardos, CFO

And the final question that you had about where does it reside, that's the point. We have assumptions in the remediation range. The results that we have thus far were consistent with those assumptions. That's why there was no charge necessary on the income statement. To your point, it would just play out on the balance sheet. The liability would come down as we expend the cash. That's where we stand at the end of '23.

Brian Lee, Analyst

All right. Thanks, guys. I'll pass it on.

Brandon Moss, CEO

Thanks, Brian.

Operator, Operator

Thank you. Our next question comes from the line of Philip Shen with ROTH Capital Partners, LLC. Please proceed with your question.

Philip Shen, Analyst

Hi, everyone. Thank you for taking my questions. My first question is about the quarterly revenue trends. You've provided guidance for Q1 and mentioned that Q2 revenue may show a slight improvement over Q1. Do you expect Q1 to be the lowest point? Also, you anticipate a pickup in the second half of the year. Are you expecting any easing of the headwinds in that timeframe? If so, what leads you to that conclusion, and what risks do you see that these challenges could persist into the second half or beyond? How confident are you that we will see improvements in the latter half of the year? Thank you.

Dominic Bardos, CFO

Let me start and unpack some of that, Phil. I think in terms of our cadence, we typically, as we've been growing the business, have seen about 40% of the revenues occur in the first half of the year, 60% in the back half. So it's typically, as we've been growing and ramping, kind of a natural. A lot of orders get placed in the first quarter. As we mentioned, some of the signs that we had of slowdown in Q4 into January, we've seen some improvement in quote/unquote order conversion here in February. So as we look at the normal pacing of this, the first quarter would naturally be a lower quarter for us. So in terms of the bottom of our forecast for the year, I think that's a fair characterization from a quarterly revenue perspective. We clearly expect jobs to continue to close. We've seen some push-outs that were expected to be in the first half. As we mentioned, move to the back half. We do not have any reason to believe those jobs will cancel. So in terms of prognostication about how the industry recovers, there's a number of factors that Brandon mentioned. There was some wishful thinking on perhaps some of the interest rates or the financing cost rate. Did folks have to go and chase down some new financing and power purchase agreements? The interconnection things, I think, are pretty much just there. People know that. I don't think that's driving immediate corrections or slowdown in the space. With the project delays themselves, like I said, there's a number of reasons, a number of factors, but we are always going to work with our customers on their timelines. If they ask us to push a quarter out, we'll absolutely do that for them.

Philip Shen, Analyst

Thank you, Dominic. The second topic is regarding the new top EPC. Can you provide more specific details, such as the size of the order and the percentage of their business that you believe you captured? It appears you secured that in Q1, so can we assume it is not part of the year-end 2023 backlog or the Q4 order book? Additionally, are the MSA terms similar to regular orders? Lastly, I realize I have asked a lot, but all these questions are interconnected.

Brandon Moss, CEO

Phil, that's probably pushing into a realm that we really can't disclose publicly. We're very optimistic. It is a top EPC. And I think some of your questions might logically make sense. We are not in a position to comment specifically about terms, about what was in, what's not. We just are very pleased that they recognize the quality Shoals can bring and we're very pleased to be a part of their family going forward. As I mentioned last call, we still believe there's room to grow here in the domestic market, both with new customers and to gain additional wallet share with current customers. This is great evidence of it. We're very excited as a team and a big win for Shoals.

Philip Shen, Analyst

Great. One follow-up there. From a timing standpoint, is it fair to say that this bookings number will be in the Q1 period when you guys report next?

Dominic Bardos, CFO

Phil, we're not going to comment on the timing of when those specific projects go forward with that EPC.

Philip Shen, Analyst

Got it. Okay. Thanks, guys. I'll pass it on.

Dominic Bardos, CFO

All right. You got it.

Operator, Operator

Thank you. Our next question comes from the line of Andrew Percoco with Morgan Stanley. Please proceed with your question.

Andrew Percoco, Analyst

Great. Thanks so much for taking the questions. Maybe just to start out continuing with the revenue conversation for 2024. Totally understand that you're calling for a back half inflection in growth, but I was just curious if you could elaborate on potential retrofit opportunities. I think you have some interesting products that you guys have highlighted from time to time in terms of potentially going to existing assets to deploy some of those products. What's the opportunity there? Is it meaningful enough to maybe drive additional revenue growth? If you can also maybe elaborate on what you're seeing on the EV charging and battery storage side of the business in terms of what's embedded in the 2024 guide. Thank you.

Brandon Moss, CEO

I’ll address that. This is Brandon. Those are great questions. Regarding our product lineup, we have launched items like Snapshot that can be implemented after installation. However, we are still in the early stages with that product and I wouldn’t anticipate it making a significant impact on our growth in the latter half of the year. Most of our growth will come from our core domestic utility-scale solar business. In terms of electric vehicles, there is considerable interest in that area. During our last call, we announced a partnership with Leidos and we are currently in the process of deploying that, which is progressing well. Nevertheless, the growth in the latter part of this year will primarily stem from our domestic solar business.

Andrew Percoco, Analyst

Got it. That's super helpful. Maybe this is my follow-up on the manufacturing expansion. Can you just maybe remind us where your capacity stands today, the utilization rate on some of those facilities, and where this additional facility will bring you in terms of a total revenue or megawatt number in terms of total capacity once this facility is up and running?

Brandon Moss, CEO

Yeah. As we disclosed last quarter, we took our production capacity from 20 gigawatts to approximately 35 with the ability to scale up to 42. This new facility, the reason that we are investing in it and we are excited about this investment both for the local area of Portland and our employees, is really to have a purpose-built facility which enables us to consolidate our operations in Tennessee. We have three plants today in the Tennessee area that are within probably five miles apart. This will enable us to have, again, a purpose-built facility that is self-sustaining. We have also recently announced the closure of our California location, manufacturing location and that production will be moving into this new site. So we will provide more specific details as we build out this facility in the coming quarters.

Operator, Operator

Thank you. Our next question comes from the line of Jordan Levy with Truist Securities. Please proceed with your question.

Jordan Levy, Analyst

Afternoon all. I appreciate all the details. I think you may have mentioned customer procurement as one of the challenges driving some delays here. I just wanted to get some color on where you are seeing the biggest pain points for customers on procurement, and is this consistent across the customer base or maybe limited to a select few?

Brandon Moss, CEO

Yeah. I think, look, like probably everybody else in the industry has mentioned, the supply chain issues mostly center around transformers and switchgear products. So we hear that from many customers. But look, we also hear delays due to permitting, due to labor challenges and due to long interconnection queue lead time. So again, I think it's an industry-wide phenomenon. Hopefully, we'll solve over the coming quarters, but a mixed bag across our customer base of what we're hearing and why.

Jordan Levy, Analyst

Appreciate that. Maybe just as a follow-up, even sort of in a transitory year for the industry, you have some strong guidance on cash flows and free cash flows. I'm sure a part of that you'd like to retain against the warranty potential. But I just want to get your thoughts on the utilization of cash flows at this point.

Dominic Bardos, CFO

Yeah. So a couple of things. First and foremost, I think you'll see that we've made another quarter improvement in our leverage ratios as we pay down and continue to retire some expensive debt. The term loan, if you recall, had an interest rate north of 11%. At the end of the quarter, you'll see on our balance sheet that we actually started doing a little interest rate arbitrage and utilizing our revolving line of credit to pay down our term loan once the prepayment penalties were gone. We have an opportunity to invest in this industry. We are a company that is innovative and well-respected in our space. And so we'll always be looking for ways to invest and grow the business both organically and inorganically. As we mentioned, yeah, this is a year when the revenues are a little softer across the marketplace, and we see that. We believe that we're going to continue to generate significant cash flows, grow the business, and be in a position to invest. We are positioning our balance sheet to be flexible. If we see the right opportunity for an acquisition, that is not something we're going to rule out. At this point in time, we do not have a plan for dividends or share repurchase, but we're always talking with our Board about those options as well. So right now, the priority is probably going to be to continue to invest in the business, pay down some debt, and be ready to strike if some opportunity comes forward.

Jordan Levy, Analyst

Thanks so much. Appreciate it.

Dominic Bardos, CFO

You got it, Jordan.

Operator, Operator

Thank you. Our next question comes from the line of Joseph Osha with Guggenheim Partners. Please proceed with your question.

Joseph Osha, Analyst

Hello there, team. Two questions. First, there's been a lot of talk recently around data centers, data center resiliency, on-site storage, stuff like that. I'm wondering, looking at that end market, whether you all perceive any opportunities. And then I have one other question.

Brandon Moss, CEO

Joe, thanks. Good to hear from you. Look, I guess first and foremost, the growth in data centers impacts our business because of power consumption, which is a good thing. I think we will see consumption grow in the coming years at a faster rate than maybe what was previously modeled. So it's a positive thing for our core business in Shoals. As it relates specific to our interest in data centers, look, we are interested in markets that enable electrification, and data centers would be part of those markets. I believe that we've got a pretty unique value proposition to be able to build plug-and-play systems at scale and reduce labor costs in the field, also aggregating supply chain issues. I do believe that our value proposition translates and like any large markets in the electrification space, Shoals is looking at data centers, among others.

Joseph Osha, Analyst

Okay. All right. That's good. And then second question, I think as everyone on this call knows, there's a place in service requirement for solar modules brought into the country under the tariff moratorium that ends at the end of this year, which may or may not create some pull forward as developers and owners try and hit that target. I'm wondering as you look at your order book and timing and so forth, are you seeing any evidence that that place in service requirement is influencing project timing at all? Thank you.

Brandon Moss, CEO

Look, I think that could have an impact on the growth that we're seeing in the back half of the year, certainly. So I think your intuition is correct there. So my feel is on the market; hopefully, there's not a labor constraint as maybe that unfolds. If it does, we offer a unique opportunity to reduce labor costs. I think it bodes well for Shoals.

Operator, Operator

Thank you. Our next question comes from the line of Donovan Schafer with Northland Capital Markets. Please proceed with your question.

Donovan Schafer, Analyst

Thank you for the opportunity to ask questions. My first question is about the shrinkback issue. When a new home is built, there is often a settling period in the first few months where some cracks may appear, but then it stabilizes. Is the shrinkback issue similar in that, once the product is deployed and exposed to elements, there might be an initial adjustment period of 12 to 24 months? Do you either see shrinkback issues during that time or not at all, meaning the deployment will be stable for its lifespan? Or can shrinkback problems emerge after five or ten years?

Brandon Moss, CEO

Dominic, or I'm sorry, Donovan, I think the way that you've explained that is accurate. We think about shrinkback occurring after a number of thermal cycles. So as power on, power off, and then also there's a climate element that relates to that. I think we've outlined that really in our complaint. So you are correct in your assumption there.

Donovan Schafer, Analyst

For the backlog, during discussions at Intersolar in January with some of your industry peers, there was a common concern regarding the longer lead times for items such as transformers, high-voltage breakers, and switchgear. As a result, some companies have become more hesitant to engage with customers or prospects to secure business and include it in their schedules unless they receive some clear indication or evidence from the customer. This evidence would demonstrate that the customer has taken the necessary steps, such as getting in line or placing orders for the essential equipment. In terms of adding new purchase orders to your backlog, do you use discretion in deciding whether to include them? Are you considering whether the customer can show that they have completed the necessary preparations to receive the equipment on time for their project?

Dominic Bardos, CFO

Yeah. So Donovan, this is Dominic. Yeah, there's a couple interesting points in there, but fundamentally when we have the purchase order, we're at a point along in the project where the EPC has already been selected. The EPC is typically our customer record. They're the ones that are working on the build, and so they know that they need our products. If other supply chain elements are coming up, it does not impact where we are from the purchase order standpoint. We are delivering our products on the timelines that we work with the EPCs, and if they struggle getting a transformer piece in or something's going to be delayed for them for a few months to finish the project, that still generally does not impact us, unless the entire project is going to say, hey, we just realized we need to push it a few months. Can you guys hold your delivery dates for us? And that's where we always want to work with the customers. But the other components of the solar field typically don't impact us from a purchase order standpoint, because once we have it, we now know our delivery schedule.

Operator, Operator

Thank you. Our next question comes from the line of Colin Rusch with Oppenheimer. Please proceed with your question.

Colin Rusch, Analyst

Thanks so much, guys. Can you talk about the opportunity to reduce your COGS, any of the bill of materials, ex-copper at this point? As you scale up, are there some meaningful opportunities for you guys in the offing?

Dominic Bardos, CFO

Yeah, so Colin, I appreciate the question on COGS. We are always working with our suppliers, and when we have visibility to projects going longer terms out, it gives us the opportunity to negotiate discounts and better pricing. We do appreciate the MSAs that we negotiate with customers like Blattner that you've seen us announce because that gives us visibility into the demand so we can negotiate better pricing. But we have guided that we believe gross margin for this business long-term is in that 40% to 45% range. Not all products carry the same margin. We are introducing products in other jurisdictions, and there are some different cost structures with that. So we always are looking to be as efficient as possible with COGS, but we also want to win business and grow the business. So we believe 40% to 45% is still a good target for COGS, I mean gross margin.

Colin Rusch, Analyst

Excellent. And then obviously, some of these larger MSA agreements are pretty important. Can you talk a little bit about, as you move into some of these international markets, how many customers you're in qualification with or testing with that we might be able to see some sort of agreement in the next 12 months with those folks, and what you might need to see to commit to an international manufacturing operation?

Brandon Moss, CEO

Yeah. That's a great question. I think we are always going to try to pursue master supply agreements for the reasons that Dominic just disclosed. Probably can't comment on where we stand either internationally or domestically on those. As we've talked about in the past, we intend to, and I think you will see us, put some sort of manufacturing or supply chain operations overseas. We are in the process of vetting where and when that happens right now. So I don't have a particular tipping point for you, but what we do know is in order for us to continue to compete, we've got to offer our customers reduced lead times, and that would be the reason why we would put manufacturing outside of the United States.

Operator, Operator

Thank you. Our next question comes from the line of Maheep Mandloi with Mizuho. Please proceed with your question.

David Benjamin, Analyst

Hi, this is David Benjamin in for Maheep, thanks for squeezing me in here. I have a question on mix looking forward. It looks like system components in the second half of '23 were down a little bit versus the first half. It was my understanding that we started with components and then customers shifted over to system solutions. Should we expect that to go back up to those mid to high 80s? Can you guys just give us a little color on product mix?

Dominic Bardos, CFO

Thank you, David. This is Dominic. The key point regarding our mix is that we adapt to the projects awarded to us, which contribute to our backlog. In some instances, the EPCs are moving directly to full system solutions. In other cases, they might be exploring our company and the quality of our work before transitioning. Additionally, some components may simply suit their preference for how to conduct business. Therefore, the composition of EPCs will significantly influence our component and systems mix moving forward. There is a baseline for this business, which will vary from quarter to quarter. However, we continuously encourage customers to opt for the full solution, as it offers the greatest value. Our BLA solution is the best available, and we believe it's the best option for our customers. Ideally, we would like to maintain the mix in the high 80s, but it's not clear yet what the future mix will be.

David Benjamin, Analyst

Great. Thanks for the color.

Dominic Bardos, CFO

You got it, David.

Operator, Operator

Thank you. Our next question comes from the line of Vikram Bagri with Citi. Please proceed with your question.

Vikram Bagri, Analyst

Good afternoon, everyone. I was trying to think about the longer-term impact of the longer-term times you guys talked about. You had added about $700 million of backlog in 2023. It sounds like quoting activity hasn't slowed down. The industry continues to project growth longer-term. You continue to gain market share as indicated by your comments while you have a flat revenue year this year due to delays. Is it likely you end up with significantly higher backlog at the end of this year, and we see a potential step change in revenue next year? And staying on the same topic, when I look at the capacity expansions being planned, it appears you're preparing for this step change when deliveries catch up with quoting activity. That's why you're progressing towards 42 gigawatts of capacity, which is significant. Perhaps it allows you revenue generation capacity of $800 million to $900 million on an annual basis. Is the busy delivery schedule you see in front of you the reason for continued expansion?

Dominic Bardos, CFO

Let me start by addressing backlog and awarded orders, as we've begun to disclose more information this year. Some projects have longer lead times, particularly international ones, which means growth may be affected by how long jobs remain in awarded order status. There is also pent-up market demand that aligns with your initial hypothesis. Regarding our facility, we prioritize our employees, communities, and stakeholders. We've evolved from a $60 million company to one worth $500 million in a short time, leading to some complexity. We see an opportunity to enhance safety and create a purpose-built facility that meets modern standards. Not all our facilities will remain open; for instance, we currently have three in the Portland area that we may not need now that we've signed contracts. We're focused on maximizing efficiency and being an employer of choice. The facility decisions we've made will yield broad benefits, though they aren't tied to any specific occurrence. We recognize the need to proactively prepare, and it will take time to properly set up our facilities; we can't simply react if demand surges in Q3. We need to ensure everything is established correctly. Brandon, would you like to add anything?

Brandon Moss, CEO

Maybe just to start with your first comment or question. Look, we remain very excited about our future, and I think your inclination around backlog growth is correct. We are seeing longer time from quote to purchase order. While saying that, our year-end backlog and awarded orders, again, $631 million, 140% up in fourth quarter as we added $128 million in new orders. We are seeing our funnel as large as it's ever been and quote volume again up 154% over last year. So I think it is natural as projects get pushed out and we have slower delivery and revenue recognition of projects, you could see an increase in backlog and awarded orders. It's just a natural occurrence.

Vikram Bagri, Analyst

Thank you.

Operator, Operator

Thank you. And we have reached the end of the question-and-answer session. I'll now turn the call back over to management for closing remarks.

Brandon Moss, CEO

I would just like to thank everybody for joining us today and we look forward to connecting with you all over the coming weeks to have further conversations. Take care.

Operator, Operator

And this concludes today's conference and you may disconnect your lines at this time. Thank you for your participation.