Workhorse Group Inc. Q3 FY2021 Earnings Call

Ladies and gentlemen, greetings and welcome to the Workhorse Group's Third Quarter 2021 investor conference call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference call is being recorded. It is now my pleasure to introduce your host, Workhorse Group's Vice President of Finance, Tony Furey. Sir, you may begin.

Thank you, Operator. Good morning and welcome to all of you joining us today for today's third quarter 2021 results call. My name is Tony Furey and I'm Workhorse's Vice President of Finance. Before we begin, I'd like to note that we have posted our Q3 2021 results, as well as an accompanying presentation via press release, and in the investor relations section of our website. We will be tracking with the posted presentation during the call, so please follow along either from the link in the press release or through our website directly. And with that, let's get started. Slide 2, please. As you can see on the slide, you will be hearing from three members of the management team during the call. Joining me today is Greg Ackerson, our Interim CFO, and Rick Dauch, our CEO. Moving to Slide 3, you have a straightforward agenda today. Following my remarks, I will hand the mic over to Greg, who will cover Workhorse’s Q3 2021 results. Once Greg has finished, he will pass the baton to Rick, who will take your questions after his formal comments and presentation. Moving to slide 4. Moving to some housekeeping items, and our disclaimer on Slide 4, some of the comments that will be made today are forward-looking, and therefore are subject to certain provisions, and are subject to risks and uncertainties. You can find the full disclaimer statement in our regulatory filings, and in today's press release. With those details out of the way, I will turn the call over to Greg Ackerson. Greg?

Thanks, Tony. Before I begin, I would like to say while this is my second opportunity to take the reins as Workhorse's CFO, this is my first earnings call. It is an honor to be given the opportunity in a very exciting time for me professionally. With that, let's get to the quarterly results by turning to slide 5. Sales, net of returns and allowances, decreased by $1.2 million, resulting in negative $0.6 million of net sales for the quarter. The driver of this decrease was a sales allowance recorded during the period which is related to our C1000 recall in September. Moving to cost of sales, in Q3 2021, we saw an increase to $11.5 million from $2.8 million in the third quarter of 2020, which was driven by several factors. On the slide, you can see them in order of descending impact. The largest impact was the inventory write down for the quarter. Additionally, our C1000 costs were higher year-over-year due to higher volumes, consulting, plant, and other expenses, in addition to higher warranty costs for the quarter. Looking at our SG&A expenses, we saw a $4.6 million increase year-over-year due to increases in our severance, technical staffing, and stock-based compensation expenses. We also saw higher consulting and insurance costs compared to the previous year's quarter. Moving on to slide 6, on our R&D line, we saw an increase of $1.2 million due to increases in our technical staff, as well as consulting and costs associated with our prototype programs. Below the operating loss, we saw some large swings in results for a number of reasons. On the interest line, we saw income of $18.6 million compared to interest expense of $74.3 million in the prior period. The largest driver was the decrease in expenses related to the fair value adjustments and losses on the conversions of our convertible notes. We also had a decrease in losses recognized on the redemption of our Series B preferred stock from the prior period. In the category of other losses, Workhorse realized a loss on the sale of our Lordstown investment of $77.1 million compared to 0 in the prior year. Overall, we had a net loss of $81.1 million for the third quarter of 2021 compared to $84.1 million in the third quarter of 2020. Let me shift gears now and talk about what we have been doing to impact what I think is the most critical financial aspect of our business, that is the management of our cash resources. Let's now take a look at the details which are included on Slide 7. As of September 30th, we had $230.4 million in cash and cash equivalents on our balance sheet. At our current projected burn rate, we have enough cash to fund our ongoing operations for quite some time before we believe we will need additional funding. However, we must remain diligent in our management of our cash resources, and that is exactly what we are doing. Let me tell you what we have accomplished in managing our cash resources during the quarter. First, we slowed inbound material shipments and freight costs. We have also reduced third-party consulting fees by replacing higher-cost external resources with in-house talent. We withdrew from a costly USPS lawsuit, which reduces legal and related lobbying costs. Lastly, we have right-sized our plant staff by approximately 25% without losing key talent. Additionally, we recently converted $172.5 million of debt into equity, resulting in a future reduction of $1.7 million per quarter in cash interest payments. What all this means is that exiting Q3, we have reduced cash outflows by more than 30% sequentially. That is a significant improvement in a relatively short period of time. That completes my financial summary. I will now turn the call over to Rick Dauch for his prepared remarks. Rick?

Thanks, Greg, and thank you for taking on the interim CFO role, and responsibilities. You're doing a great job. Good morning, everyone, and thank you for your interest in our company. It has been a busy and eventful first 100 days for me and our team here at Workhorse. We are taking the sometimes painful, but necessary early steps to reshape our company and become a more focused and capable industry leader in the EV space. Turning to slide 8, my update covers a wide range of topics. During my initial earnings call back in August, after a week in my new role, I said I'd be undertaking a 90-day orientation process here at Workhorse. Today, I will share with you what I have learned thus far, as well as what we have accomplished in the third quarter to strengthen our company. I will also review the powerful macro trends that are driving our business model and which are important considerations when I decided to come off the bench and take over the CEO role here at Workhorse. I also want to share the stabilizing growth process model I previously and successfully used as a CEO to manage, lead, and build winning, profitable companies. Finally, I will share with you what I believe are our most important opportunities and issues, as all companies have them, in addition to our near-term priorities in the fourth quarter. My 90-day orientation at Workhorse has been extensive and far-reaching, as reflected by the activities that have been completed on slide 9. I won't go through them all in a comprehensive fashion, but I will say I have met with our major customers, our key suppliers, attended one of our industry's largest trade shows, met with many of you in the financial community, as well as many other industry players, met internally with department leaders, and held three separate town halls with our staff and workforce at all three facilities. I also conducted in-depth one-on-one interviews with 27 of the key leaders here at Workhorse, and held three days of intense product design and build material reviews with our engineering and purchasing teams. On the regulatory side, we know that both state and federal emission standards will only get more restrictive going forward, and that the federal government is prepared to invest heavily in the infrastructure required to assist in the transition to electric-powered vehicles. Last Friday, the new $1.2 trillion infrastructure bill was passed into law with $10 billion of investments identified for the EV sector, primarily for EV charging and infrastructure stations. In summary, we have been very deliberate and thorough in engaging across all stakeholders within the industry at all levels and across all functions within the company. We are now well-informed and prepared to make critical decisions to reshape our future business plans here at Workhorse. In the spirit of transparency, which I will speak about more later in my comments today. On slide 10, you will see my key 90-day findings. Let me start with the positives. As mentioned earlier, we have strong macro market dynamics propelling our business forward. There are not many industries with this type of macro backdrop in the country. We are fortunate to have this convergence of favorable macroeconomic trends and regulatory factors driving our future growth. We have rock-solid capable people at the working level. At every facility I was impressed with the dedication and capability of the Workhorse team. We need to keep the enthusiasm and drive that comes with being an exciting technology startup company while we transition into becoming a best-in-class manufacturer of EV vehicles. As you heard from Greg, we have near-term financial flexibility based on our improved balance sheet and reduced monthly cash consumption rate. I was very pleased to find that we have technology leadership positions in several product areas including the Class 4 to 5 EV delivery vehicles, and powertrain systems, our UAVs, our historical W22 and P Model steel rail chassis systems, and our Metron Telematics systems. Based on my conversation with all of our leading customers, we can confirm we have solid purchase orders and strong, loyal customer support. Our Union City manufacturing campus capabilities and potential are also positive differentiators for us in the EV industry. We are competing in a fragmented industry and possess foundational elements that differentiate us from others in the industry. We have a capable plant, extensive prototype experience, real-world driving experience, a qualified workforce, and talented engineers. Some of our key competitors in the space are just now building plants, hiring people, and making prototypes. Here at Workhorse, we are a real company, and not a PowerPoint EV company. On the other side of the ledger are the negatives. We had an inexperienced leadership team and we moved very quickly to address this key issue. We previously had poor communication and coordination across the company, both internally and externally, and we've eliminated that. Our cash burn rate was greater than $12 million to $16 million per month when I arrived at Workhorse. Our C1000 vehicle design is not robust nor is it profitable. Our supply chain, despite the dedicated work of our purchasing staff, is not yet Tier 1 qualified. The company had a lack of systems and process discipline, which to be fair is typical for a startup company. Let's now move to the macro backdrop for the Workhorse business model, which we've highlighted on Slide 11. It will not come as a surprise that e-commerce has been growing faster than the U.S. retail sales market for the last decade. E-commerce sales continue to grow at a 15% annual growth rate. Coupled with the consumer experience during the COVID-19 pandemic, the orange hockey stick in 2022, shown on the chart on the left, tells you that the last mile of delivery is more important than ever, and we believe that this shift in consumer buying habits is here to stay. Now let's take a look at the projected growth rates for both the Class 4 to 7 CB truck market and the UAV forecast. You see nothing but positive momentum with double-digit growth rates in both segments. These trends support and underpin the Workhorse business model. Slide 12 tells a related but equally important story. As you know, state implementation of electric vehicle standards varies across the country, led by California and those states that are following the California Air Resources Board plans. The chart on the left shows in blue the leaders by state in the move to EV vehicles. While large in populations, this group forms the early adopting tip of what will be a decade-long transition to EV. The chart on the right shows the forecast or projections for the ICE to BEV powertrain transitions here in North America for all automobiles, vans, and trucks. As you can see, the transition to electric vehicles is just underway with less than 4% of all vehicles being fully electric. This transition to EV will pick up speed mid-decade as a result of over $200 billion in new product investments by the OEMs. Coupled with major investments in the EV infrastructure across the country, these factors will converge to enable the shift to electric vehicles. It will take more than a decade to reach a 50-50 split between ICE and EV powertrain systems. Hence, we are in the very early innings of a generational industry-disrupting change in powertrain and infrastructure technologies. These dynamics are impressive and convinced me that this market is one I wanted to participate in with the right company. As a result, I came off the bench to join Workhorse, and I've seen nothing internally or externally that has convinced me otherwise. If you drill down into our markets, what does this mean for the medium truck market? Slide 13 shows you the current analyst projections on the mix shift from internal combustion engines to electric vehicles for commercial vehicles in the coming years. We also include the incentive benefits for each vehicle tied to each of these truck weight classes for additional insight. You can see liftoff occurs around 2023 and the growth can be expected to keep ongoing. This is undoubtedly a target-rich industry to be a part of. Let's now turn to Slide 14. I had the good fortune to serve as a CEO for a number of companies during my business career. Through my experiences, I have developed a straightforward, process-driven approach for leading a firm from a challenged situation to stability and profitability. No, this isn't rocket science, but it requires hard work, tough decisions, selfless leadership, and most importantly, buy-in throughout the organization, across all stakeholders, and of course, flawless and relentless operational execution every day. You saw in the 90-day orientation slide the orange circle with the six P's. Understanding the people, products, processes, partners, profitability, and politics are critical to future success here at Workhorse. They serve as the foundation for what we want to achieve here at Workhorse and are shown at the base of our pyramid. You can see at the top of the pyramid the value creation that comes from the progressive improvement and steps taken by the company based on a series of deliberate actions. But you cannot skip the hard work required to move from the bottom of the pyramid, across the levels to achieve success. The level set, we are currently in the lowest slice of the pyramid. From here we will start our journey together. We are emphasizing an environment that has no politics and is focused on ethical people and actions, team players, and selfless leaders. Over the next three years, I fully expect us to reach the top of the pyramid. Again, this will not happen overnight and will require a focus on the customers we serve with industry-leading technology, making decisions about what is core and what is not core here at Workhorse to develop and implement common lean systems, and then properly grow the business. I am confident we can do this with strong industry fundamentals and tailwinds we have in our sector. We know it will be hard work and require many important decisions along the way. Speaking for the whole company, we're ready to start on our journey. So let's go to work. Turning to Slide 15. One of our first collective actions undertaken as a management team was in October, at a 2.5-day offsite to establish our mission and values as a company. As I tell you from my previous CEO experiences, establishing a clear vision for the company and certainly setting core values by which we will act and make decisions going forward are absolutely essential steps in establishing the proper culture for success and the touchpoints we need, especially for our company in the midst of a transition. Why? Well, if you don't know where you're going, anywhere will take you there. If you do not have agreed upon values, then you will not stand for anything in particular. The result of our session was a straightforward vision for Workhorse: To pioneer the transition to zero-emission commercial vehicles. Our values are quite simple, and we will hold each other accountable to live up to them and to emulate them every day. Transparency, teamwork, accountability, excellence, and integrity. Our board of directors has approved our vision statement and our company values. In my presentation today, I hope you will see we are serious about the values we've established, and we will use them to drive my communications internally and externally with all stakeholders. On slide 16, as I mentioned in the prior slide, we have moved quickly to assemble an experienced, capable leadership team with a breadth of experience in the electric vehicle, automotive, and related industries. These names include Josh Anderson, our new Chief Technology Officer, who comes with over 20 years in the EV industry and possesses 11 patents around EV powertrain systems and software. Jim Harrington, our Chief Administrative Officer and General Counsel, who worked with me at Delphi Technologies, and served as General Counsel at Tenneco for over nine years. Stan March will join our company next week as our Vice President of Corporate Development and Communications, and as someone who has a couple of decades of experience in business development, M&A, communications, marketing, and investor relations. Dave Bjerke, Vice President of Product Development, over 40 years of P&L and vehicle design experience focused on low volume specialty vehicles, very similar to the kind of volume and vehicles we're going to build here at Workhorse. Ryan Gaul, President of Commercial Vehicles, is a 20-year veteran of the global auto industry, with multiple years deployed across Europe and in China, building plants and building businesses in both those regions. Chris Nord, our Vice President of Commercial Development, who joined us from the trucking industry where he was at the forefront of the shift to alternative fuel and electric-powered vehicles in that segment. Lastly, Jim Peters, our Vice President of Purchasing Supply Chain, who I worked with at American Axle, is a supply chain expert. Let's now move to Slide 17. As we just closed in September, we made a filing indicating that additional testing and modifications are required to bring our C1000 vehicle into compliance with federal motor vehicle safety standards. There are only 41 vehicles in the field when we grounded the fleet. I want to emphasize that there were no recorded accidents or safety incidents associated with these or any other of our vehicles. We have slowed production to just two vehicles a week and have extensive testing underway in the fourth quarter on several different C1000 vehicle systems, including brake testing, analytical load analysis, durability testing, and finally reviewing the data field on our electric powertrain systems. In the first quarter of 2022, decisions will be required as to whether we make the C1000 a limited or a full production type vehicle. We are also looking at multiple Class 3 through Class 7 chassis options as part of this in-depth product portfolio review. As we do this, we will be finalizing a three-year product portfolio roadmap that we plan to execute between 2022 and 2024. We will take the lessons learned from both field data and testing results associated with the C1000 fleet and incorporate the relevant improvements into our product portfolio review and decisions. Another important portion of our business is our aerospace, our drone division, which is highlighted on slide 18. We are one of the original equipment manufacturers approved by the government to pursue commercial FAA Part 21.17 certification in 2022 and 2023. Potential customers tell us our current range and payload capabilities are market-leading, and we will continue to work on enhancing both. We are a single-source supplier partner and to develop a drone to deliver packages from vehicles with a leading last-mile delivery customer. From our conversation with other potential customers, we are encouraged by our system positioning in this business segment. We're exploring additional projects with both the federal and state governments, as well as large retailers. We've already entered into demonstration contracts with multiple customers. We'll keep you informed on important developments in this business segment, as we believe we have both the range and cargo capacity to be a leader in the emerging drone delivery industry. I now want to spend just a moment talking about our Union City facility and campus on slide 19. First, we have a great workforce with lots of manufacturing and assembly experience. We have an existing 2012 square foot factory sitting on a 47-acre campus. The site has a 30-year legacy of commercial vehicle chassis production. We recently established a wonderful customer experience center, and we're planning to add a test track to the facility to further enhance its value in 2022. I believe this facility is truly a diamond in the rough and can be a significant differentiator for us in the industry, given the dedicated and experienced staff we have there, and the fact that many competitors do not yet have dedicated manufacturing assets under their control. With limited incremental investments, we can and will create a world-class manufacturing center in Union City. Let's turn to Slide 20. In my 90-day review, I've also been able to scale or scope the Company's CapEx requirements for the next three years from 2022 to 2024. Major investments are needed in three key areas. First, we need to fund research and development, as well as test facilities and equipment, which we estimate will be between $8 to $10 million. We plan to invest in our Union City manufacturing facility to bring it up to a state-of-the-art plant and estimate our cost to be somewhere between $15 to $20 million to do this. I want to underline this number one more time since you will find very few, if any, competitors in the EV space able to achieve so much improvement for the incremental investment dollar as we will see from Union City. Finally, we need to invest in our corporate IT systems somewhere between $5 to $10 million over the next three years. The Workhorse team is executing our revised plans to be fully prepared to meet the emerging EV market needs in 2023 and 2024. As we have shown in slide 21, the federal fleet consists of more than 750,000 vehicles across multiple departments and agencies. This is the largest fleet in the country. Significant federal funds exist to support the transition to EV technologies, both for vehicles and for infrastructure. Across my 30 years of industry experience in business choice, I've never seen a customer provide an award or a contract to a supplier if they've been suing them. Please turn to slide 22. I have not spent the past 90 days simply familiarizing myself with the company; we have also made a series of decisions to address the challenges we face, which include some of our new executive management team, and I would say we're about 80% complete with that today. Strengthening the balance sheet by converting more than 85% of our debt to equity, confirming our customer order backlog through direct face-to-face conversations with our customers, grounding the C1000 series vehicles and putting them under more rigorous tests, withdrawing from the USPS lawsuit, reducing the monthly cash burn rate of the company by approximately 30% per month, and I think we can do better, developing a three-year draft of our product portfolio plans, and establishing business unit roadmaps to profitability for the future. Of course, many things remain to be completed as we work our way up to stabilize and grow the pyramid. So we've established the following priorities for Q4. We need to hire an experienced CFO and other selected executives; we need to strengthen our organizational, technical, and commercial capabilities; we need to complete the C1000 testing and make a decision about its future; we need to finalize product development roadmaps for both our vans, chassis, and UAVs; we need to finalize the 2022 budget; and we need to develop detailed 2022 to 2024 business plans at the business unit level. Stay tuned for further progress in these areas in the coming quarters. Let me touch on a subject likely of interest to all of you on slide 23. Recent news flows in our 8-K filings have mentioned investigations by two government bodies, the SEC and the DOJ. Here's the latest information we have and that is all I can share on the subject. As we noted in yesterday's 8-K filing on October 19th in November, we received letters from the SEC requesting that we voluntarily provide information related to trading in our securities leading up to the announcement of the award of the U.S. Postal Service contract and on the recognition of revenue related to the purchase of vehicles by certain customers. On November 1st through 5th, the Department of Justice orally informed us that it has a related open investigation involving our company. We have not received any subpoena or other request for documents from the DOJ with respect to this investigation. We are fully cooperating with both the SEC and the DOJ investigations. At this point, we cannot predict the eventual scope, duration, or outcome of these matters. As I'm sure you can appreciate, we are limited in what we can say while these investigations are ongoing, and we will not be commenting further on these matters. We are here to discuss our third-quarter results and ask that you please keep your questions focused on our results and plans going forward. So wrapping up the slide on 24, what essential takeaways would I like you to have from today's call? First of all, we've assembled a strong, capable, and experienced leadership team and a workforce who have rolled their sleeves up and are going to work. We strengthened the balance sheet by reducing more than 85% of our debt while reducing our cash burn rate by approximately 30%. We've withdrawn the bid protests and associated legal actions against USPS, opening the door for us to have discussions with the Federal Government on other projects underway. We have a rigorous vehicle testing and redesign process underway for our C1000 vehicle, led by extremely competent and experienced engineers. We've revised our product portfolio roadmap, which is currently in development. It is also worth remembering that the transition to commercial electric vehicles will be a long road. To be successful in the end, it will require nimble, multifaceted companies to be ready when the market opens and also to weather the long design, testing, and order cycles associated with launching EV vehicles. It is much tougher to do it in real life than to do it in PowerPoint presentations. Finally, we have already identified the capital investments necessary to position Workhorse to be first-to-market in the commercial electric vehicle last-mile delivery space in 2023. With that overview and background, we're now happy to answer your questions. Operator, please provide the appropriate instructions.

Thank you. We'll now be conducting a question-and-answer session. One moment, please, while we poll for your questions. Our first questions come from the line of Colin Rusch with Oppenheimer. Please proceed with your questions.

Thanks so much, guys. As you're going through this product redesign, and working with your suppliers, can you talk a little bit about the preparedness of those suppliers to help enable some of the technology moves that you need to make to actually take the weight out, and get this product to optimize, and simplify to hit the market?

That's a great question, Colin. One thing we discovered here when I got here is that the majority of our suppliers were not your typical Tier 1 suppliers. We were buying parts from aftermarket sources, power and truck dealerships, and online auction places. So by bringing in Jim Peters, we have him taking charge of the supply chain. We've already identified over 70 traditional Tier 1 suppliers we think are more than capable. We're talking about big names like BorgWarner, Dana, Metalsa, Magna, and others. The typical Tier 1 companies that underpin the truck industry. We've already had a series of meetings there, and we'll be prepared as we redesign the C1000 or modify the C1000 or go to a different design to ensure we have a very well-qualified, capable supply chain. The one area I'm confident in is our good relationship with CATL for our batteries. They seem to be proving out quite well on the tests.

Great. And then, in terms of your manufacturing capacity, there's a variety of new scenarios that are developing within the industry as the technology notes change. So there's some outsourced manufacturing on elements of this. As you look at this $15 to $20 million investment potentially in your current facilities, how do you think about that as a strategic asset relative to some incremental costs you might find outside of what you have internally, or is this really going to get you to a place where you can really scale up into the full scale of this opportunity?

I'd say one of the key findings here, when I got here, I was pleasantly surprised when we visited Union City. I wasn't happy with what it looked like from the outside; they've already addressed that. When you come visit, it looks a lot better. The roads have been paved, we cleaned up the plant, and cleared out a lot of debris around the plant. What was really exciting when I got inside is that it's a solid building, and most importantly, we have a really good workforce. I'll be up there tomorrow to talk to them. We have two vehicle assembly lines that we can run with multiple shifts. We have a dedicated chassis line that we can run, so if we want to do full vehicles or if we just want to do chassis, we have the flexibility to do so. We have multiple sub-assembly feeder lines and we have the space to expand the plant if we want to in-source any of the current work we're doing on the outside. I think there's a lot of flexibility in Union City, and as we finalize our vehicle plans, we'll finalize our capacity plans, and I believe we can meet the growing needs in the EV market into 2023 and 2024. We've already met with the local government leadership team. The surrounding community includes about 360,000 people who are some of the best employees up there in terms of wage and benefits, and so I think we can get a very good competent workforce who has a history dating back to the early 19th century of building classic vehicles there.

Great, thanks so much, guys.

Thanks, Colin.

Thank you. Our next question comes from the line of Greg Lewis with BTIG, please proceed with your question.

Yes. Thank you, and good morning, everyone. Rick, can you provide any updates on the recalled vehicles and their status for returning to the road? I also noticed you mentioned that production has slowed down to one or two vehicles per day. Is there still a belief that there is at least a niche opportunity for the original series C1000 in the upcoming quarters? Is that the right perspective?

Currently, we have 41 vehicles recalled, while approximately 124 are operational in Union City, bringing the total to around 165, potentially increasing to 170 this week. As a startup, we underestimated some regulatory requirements we need to adhere to under FMVSS. We aim to complete all necessary testing by year-end. For instance, we need to replace certain controls and displays in our vehicles to align with FMVSS standards. We also need to replace the wiper brace for our windshield wipers and defogging systems, which won't be costly. Additionally, lamps and reflective devices around the cab need attention, and our tires require DOT markings, which we can address easily. We're focusing on three main issues: First, we're conducting brake testing, with documentation expected to be complete by the end of November; second, our EV powertrain and software systems are undergoing more rigorous testing, and we anticipate good data by mid-December; finally, we will perform load analysis and durability tests on the trucks. Customers, including UPS and FedEx, expect these trucks to last 15 to 20 years and handle significant loads. However, I'm not confident that the C1000 will meet these demands. On a positive note, customers have expressed interest in every C1000 we can build in 2022 for demonstration purposes, as they want to showcase the transition from ICE vehicles to EVs. Recently, a customer expressed eagerness to acquire multiple vehicles as soon as they meet safety and reliability standards to educate their teams and customers about the impending shift to EVs in the next five years. We are enhancing our team by bringing in experts with extensive experience in EV powertrains and vehicle design. With nearly 70 years of combined expertise joining us recently, we are well-prepared to progress. We also have a talented group of young engineers, with plans to double our engineering staff in the next 12 to 18 months. Additionally, we aim to improve our in-house testing capabilities to ensure supplier parts meet our specifications and invest in better testing methodologies similar to those used in my previous role at American Axle. Does that provide clarity?

Yeah, that was super helpful. Thanks. Then I guess just one more from me. As we think about, thank you for the comments on the U.S. decision to drop the USPS lawsuit. But as we think about the potential federal government opportunity you're realizing that it's still very early days. You did mention Dave, who's joining has a background in working with the military. I think traditionally people viewed Workhorse as a provider of electric vehicles solely in the last-mile delivery. As we think about opportunities broadly from the federal government, is there the potential now with your team in place that we could be looking beyond just, say, small delivery trucks as opportunities present themselves?

I'm not going to tip my hand too much because I know some of my competitors are listening or some of my potential customers are listening, but one of the great things I found in this company is that we have a history of making up to Class 7 and Class 8 chassis in our Union City factory. We own all the intellectual property, we own the tooling, and we know who the suppliers are. One of the things we've done as a team is ground ourselves in the transition for both Class 3 up through Class 7 commercial vehicles and where we can play, either as a full vehicle manufacturer or as a chassis provider of vehicles. There's a very potent chassis market here in North America right now. I won't comment on who those competitors are, but it is a limited market right now. We're hearing from multiple customers that they can't get enough chassis to underpin their vehicles. We're conducting some studies there. Stay tuned for future business plans. We hope to have these finalized by early first-quarter.

Perfect. Thank you for your time.

You're welcome. Thanks for the questions.

Thank you. Our next question is coming from the line of Jeff Osborne with Cowen. Please proceed with your questions.

Hey, good morning. Just a couple of quick questions from my end. Rick, I was wondering if you can give us an update post the actions that you went through on the cash burn. If it was $12 to $16 million, are you closer to $8 million now, or can you give us a sense of where that is?

I'm going to let Greg take that and then I'll make a few comments probably soon.

Yes, I would say during Q3, we got it down to $11 million. When we talked about some of those actions we're taking, I’ll say there are opportunities there. We have a pathway to get us lower. I think it is a very good goal for our Q4.

When I first arrived, I reviewed our spending from January 1st with Greg and the team. A couple of things stood out. Labor isn't our main issue; instead, we are acquiring too much raw material and have excessive inventory that we even had flown in, but we were unable to build the trucks, making this procurement unnecessary. We've slowed down that acquisition process and stopped flying parts in from Asia. Another concern was our high expenditure on external consultants, legal firms, and lobby groups, costing us millions each month, but we've significantly reduced that spending. It's more cost-effective and beneficial long-term to utilize our own in-house talent rather than relying on outside experts. I won't disclose precise figures, but we're likely paying excessively for certain program management roles. Additionally, we needed to address some overdue invoices with our suppliers, which is nearly resolved now. I believe we can manage our finances tightly through the fourth quarter and into the first quarter while we prepare for next year. A crucial factor will be our new product designs and deciding when to increase spending on inbound materials and place purchase orders, likely in late '22 or '23.

That's helpful. Just to clarify, did I hear you right that you have inventory for 500 and you wouldn't need to order before the middle of the year, so you're implying you're going to build 500 between now and mid-2022?

If we can look each other in the eyes, and we can pass every single test, and we can make the modifications on the vehicles we've already built, and we can make those design changes on the next vehicles we build, then yes, we could probably do that, but we haven't made that decision yet. Okay.

Got it.

I know that's a critical decision, a pivot point for us that we're not quite ready to make right now.

Last question. Is there any risk of a negative net revenue number for Q4? Are there any returns that have come in according to data? Can you just give us any sense of scope as to what we should be thinking about for Q4? I assume no saleable deliveries just given the issues that you've identified and some of these are going to be going through mid-December, but I wasn't sure if there's actually any net negative numbers coming in.

We do not expect that to be the case. We have already spoken with all 41 customers and feel we have a complete understanding of who is returning the trucks, who needs them repaired, and who is expecting to receive their trucks back.

And some of those trucks, we just decided to store on-site at those locations rather than incur the penalties. These are costly trucks to move around the country; it takes special flatbed trailers to move our truck from our plant to our customers, resulting in around a $5,000 bill. So the major customers agreed to keep those. We're going to pay them a storage fee and then we'll repair these trucks onsite.

Got it. Thank you. That's all I had.

Thanks, Jeff.

Thank you. Our next questions come from the line of Craig Irwin with ROTH Capital Partners. Please proceed with your questions.

Good morning. Can you talk a little bit about the returns of the vehicles, whether or not you expect financial returns to be changed materially with the design changes you're likely to adopt? Are we still looking at probably something like a 65% reduction in maintenance costs to your customers and superior per mile economics, versus gasoline or diesel?

I'd say the numbers that I've seen so far, the total cost of ownership for electric vehicles is almost 67% better than an ICE vehicle. So there's a real move towards ICE, but they've got to put the infrastructure in place to do so. Right? So, that's part of the key to unlocking the EV potential. One thing we're taking a look at is what is the right price point for an EV-powered vehicle? I don't think that our price point we went out with to market is right. Especially when factoring in all the vouchers that are coming into this space. So I think that's all a moving target right now.

Understood. And then the second question I have is really a financial clarification and use of cash. So in your presentation today you covered CapEx needs for a variety of different things. Can you maybe walk us through the timing of the CapEx spend and approximate for us what it might look like over the next 12 months?

We are a startup company with basic IT systems, and since we're in the early stages of growth, it's a good time to implement the right products, such as a PLMS system to track our designs across engineering, purchasing, and manufacturing. This shouldn't be too expensive, probably around a couple of million dollars. We have an ERP system, but it’s a few years old. Instead of upgrading it, we plan to implement a more suitable system, which will likely cost between $3 million and $4 million. I've asked Greg to evaluate what systems he needs for financial consolidation each month, as we currently rely on Excel spreadsheets for some tasks. We estimate the total expenditure for this initiative to be between $5 million and $10 million, likely leaning towards the lower end. For the factory, we anticipate costs between $15 million and $20 million, which includes the potential purchase of a warehouse on-site. Currently, we transport materials to Cincinnati, which is inefficient as we then have to move them two hours away to Union City. We are also reviewing some of our internal processes, such as water testing and leak testing. We want to incorporate a dynamometer to run vehicles for a few miles to ensure all systems operate correctly, akin to what's typically done by larger OEMs. However, given our low volumes in the commercial vehicle sector, we may not need that. The testing equipment we have is not fully adequate either. I expect the spending will be fairly balanced, with more in 2022 and 2023—potentially around $10 to $22 million or $15 to $23 million—before we taper off in 2024 as we prepare for your model. I’ll let Greg provide more precise details once we finalize this.

Understood. Thank you.

Thank you. Our next questions come from the line of Chris Souther with B. Riley, please proceed with your question.

Thanks for taking my questions here. Maybe just on the decision process that you're going through right now on the C1000. What are some of the pros and cons here for limited versus full production with the redesign versus that next-gen products? And then, it sounds like the connection product would potentially be available for 2023 with the ramp, so you could ramp with either one of those in 2023. So just, that decision process with the C1000, what is driving that?

First and foremost, the C1000 has to be a safe and reliable vehicle. If it’s not, we won’t launch it. We cannot risk anyone’s safety on the road. It’s essential to have functioning brakes, a dependable powertrain, and so on. This is our top priority. Every original equipment manufacturer should be doing this, and every company I've worked with has adhered to these standards. Next is the payload requirement. We designed this truck for companies like UPS that typically handle larger payloads of 7,000 to 8,000 pounds. However, within that segment, many trucks don’t require such heavy capacities. We believe we can find enough customers to support production of 300, 500, or 1,000 units of the C1000. One uncertainty we have now is whether these trucks will perform well on dynamometers over time. We need to determine if they can genuinely last for 15 years or if they are more suited for a lifespan of two, three, or four years under limited production scenarios. These are the aspects we are currently evaluating. Based on our testing data and field performance next year, we will adapt our approach. We could end up with both a C1000 for specific needs and a redesigned version, or even a completely different vehicle. The C1000 features an aluminum skateboard chassis, which is expensive. It might be more economical for us to consider a steel chassis or possibly offer both options. If customers are willing to pay a premium for lower floorboards compared to a steel rail chassis, we may provide that choice. These are the types of decisions we're working through now that we have a better understanding of the company and the market trends and data. We aim to make informed decisions in the coming months.

Okay. And then just looking at where you've talked about with capital plans here and then, lower cash burn rate that you're targeting. Looking out like 6 to 8 quarters of cash burn left here. How much of a cash cushion do you need heading into that 2023 production, do you think?

I'd say that's TBD. That's the work that Greg and I are doing right now. Now, we have our cash burn down, as Greg said, to around the $8 million range; I think October came in around $8 million. I think we can go a little lower in November and December; we'll see. Then we'll start laying in the capital factors, when do we really need the equipment there. We need the engineering stuff now. Some of the manufacturing stuff doesn't need to come in until early 2023, so we can push that out a little bit. And then when do we need to start ramping up tooling suppliers and new suppliers, that will probably be in the second half of 2022. I'd ask for your patience, and we will try to bring that to you in our fourth-quarter earnings call.

Okay. Thanks.

Thanks.

Thank you. Our next question comes from the line of Mike Shlisky with D.A. Davidson. Please proceed with your question.

Good morning. Thanks for all the great detail in your presentation. I may have missed this, and I am looking to a 10-Q. Can you maybe just tell us what number of vehicles you actually did ship in the quarter? There were some shipped. Can you just give us that number?

During the quarter, Mike.

Another question is about the inventory write-off you had in the quarter. Is this basically the parts that are too heavy for the current vehicle or just not going to go forward with any future C1000 in the next iteration? And is this unrelated to that, and is there a risk of a second write-down over the next few quarters of having stocks that aren't going to be used whenever you get the next version designed?

The write-down this quarter was largely due to the accounting standards that require a write-down to the sales price if costs exceed the sales price. It was essentially a straightforward calculation for the quarter.

As you go through the process, redesigning the C1000. Is there potential that you will see a second write-down once you realize that some of the parts might not be going forward?

Yeah. We're going to be evaluating that as part of our plan, looking at the sales price and costs, but to the extent the costs are in excess of what we expect to sell for, you would expect to see a future write-down.

Yeah, the comment here is that this company historically has been a prototype-type company, and we paid prototype-type prices for our parts from prototype-type suppliers. We're going to transition, and it's a painful transition quite honestly, to go from a prototype company to a full production OEM, right? So we've got to teach the team here, especially in supply chain and engineering, these are the target prices for the parts that have these specifications and need to work as a system, right? We're going to do that. Go back and look at Elon Musk's quote, prototype's easy, production's hard. We're doing that transition, we're a prototype company startup to a full production OEM. That's the challenge we face over the next two to three years.

Got it for sure, Rick. Thank you.

Thanks, Mike.

Thank you. At this time, that does conclude the Company's question-and-answer session. If your question was not taken, you may contact Workhorse's Investor Relations team at wkhs@gatewayir.com. Thank you for joining us today for Workhorse Group's Second Quarter 2021 Earnings Conference Call. You may now disconnect.