Westport Fuel Systems Inc

Thank you for standing by. This is the conference operator. Welcome to the Westport Fuel Systems third quarter 2022 results conference call. As a reminder, all participants are in listen-only mode and the conference is being recorded. After the presentation, there will be an opportunity to ask questions. To join the question queues, you may press star then 1 on your telephone keypad. Should you need assistance during the conference call, you may signal an operator by pressing star then zero. I would now like to turn the conference over to Ashley Newell, Senior Director of Investor Relations. Please go ahead.

Good morning, everyone. Welcome to Westport Fuel Systems' third quarter 2022 conference call, which is being held to coincide with the press release containing Westport Fuel Systems' financial results that was distributed yesterday. On today's call, speaking on behalf of Westport, is Chief Executive Officer David Johnson and Chief Financial Officer Richard Orzetti. Not speaking today, but joining us on our call is Bill Larkin, our incoming CFO, who will assume the role following Richard's departure on November 30th. Attendance on this call is open to the public, but questions will be restricted to the investment community. You are reminded that certain statements made in this conference call and our responses to various questions may constitute forward-looking statements within the meaning of the U.S. and applicable Canadian securities laws, and as such, forward-looking statements are made based on our current expectations and involve certain risks and uncertainties. With that, I'll turn the call over to you, David.

Thank you, Ashley, and good morning, everyone. I'm pleased to be with you today to discuss our third quarter. Once again, our team delivered solid results as we continue to execute our strategy and showcase our pioneering hydrogen HPDI technology to a wide audience amid the ongoing challenging macro environment. We continue to work through the industry-felt headwinds and feel both prepared and poised to grow into the future. We believe that strong LPG price advantages, continued expansion of the new market, supportive global emissions reduction requirements, and further OEM conversations about hydrogen HPDI will drive growth and profitability. We remain committed to our announced $1 billion in revenue and profitability goals, but also recognize that due to the headwinds we've faced so far this decade, and which we're continuing to face for at least the near-term future, the time to achieve these goals will be later this decade. The environmental, economic, and regulatory requirements will not stop or wait and Westport is well-positioned to respond. Today, I'll be walking you through an update from our Hydrogen HPDI Roadshow, where we've been promoting our technology at important industry and government events. I'll also dive into our recently announced Scania test results to clarify the import of what we've achieved. I'll discuss the rise of liquid biomethane, highlighting its growth, particularly in Europe, and its increasing usage in heavy-duty transport, and why Westport stands to benefit. Finally, I'll walk you through our independent aftermarket business, where we see recovery through this year, which is being bolstered by the continued price advantage of LPG in many markets. In Q3, we delivered revenues of 71 million US dollars, slightly lower than Q3 last year. As indicated in prior quarters, the Russian market has been historically important for Westport through both our aftermarket and OEM channels. Now, with the war in Ukraine, the sanctions on Russia and in combination with a weakened euro and high natural gas prices in Europe, we've been heavily impacted. If we were able to set these aside, our business would have grown by 15% in the third quarter. Absent changes in foreign exchange, our revenues grew by 10%. We also continue to experience the impacts of rising inflation, supply chain constraints, higher utility costs, and fuel price volatility that have weighed heavily on our industry. As many of you know, We are the only company with the technology to use diesel cycle combustion with LNG and biomethane, and there are thousands of trucks on the road today using our technology. Taking this a step further, our fuel system technology paved the path from natural gas and biomethane today to green hydrogen tomorrow. We were thrilled to continue to inform both industry participants and policymakers about our unique capabilities and the advantages of hydrogen HPDI with our Class 8 demonstrator vehicle at multiple industry events in Europe and North America. It isn't a surprise that as populations grow and economic development continues, we'll need to move more freight. Both the industry participants and the policymakers agree the numbers of trucks on the road will grow and the performance and cost effectiveness of lower carbon solutions will become increasingly critical. We truly believe that HPDI is the solution today and for the future. Speaking more broadly about our business, fundamentally, the outlook remains strong. The demand trends for affordable mobility options that reduce emissions are encouraging, and we're seeing regulatory and policy support for options that utilize zero-carbon fuels like hydrogen and biomethane. We're capitalizing on this now with the advancements we've made with hydrogen HPDI. and the further recognition of what HPDI technology can achieve today with natural gas and liquid biomethane, in addition to the work we're doing developing fuel systems to respond to future regulations, including the pending Euro 7 standard. Wanted to quickly take the time to reiterate our three-pronged go-forward strategy as a company and how we're positioning ourselves for the future. We'll drive sustainable growth in our existing markets through a diversified portfolio of technologies, products, and services. This will be seen across all our business units. Second, we aim to unlock new and emerging markets through the delivery of cleaner, affordable transportation solutions. Third, we'll continue as we've done in the past to drive operational excellence and maintain our reputation as a Tier 1 supplier with enhanced quality and reliability. Historically, when the word hydrogen has been used in relation to on-road transportation, only fuel cells come to mind. We're challenging this narrative. The future requires many options, including solutions best fit for certain applications based on factors like distance, payload, durability, and affordability. Our technology is the solution for using zero carbon hydrogen effectively in many applications with the required performance at an affordable price. We're having these conversations now, including unveiling our hydrogen HPDI fuel system equipped Class 8 demonstrator vehicle at IAA Transportation 2022 in Hannover, Germany, one of the largest commercial vehicle conferences in the world. Further differentiating hydrogen HPDI from other technologies is the ability and opportunity to use existing manufacturing infrastructure, a key factor in the near-term adoption of sustainability solutions and a discussion point with all OEMs at the Hannover show. Minimizing investment, both public and private, on the path toward decarbonization is a key component of our ability to achieve real change quickly. OEMs are taking notice. We've demonstrated that our technology achieves better performance in diesel engines with near zero CO2 emissions, all while utilizing existing, already paid for, manufacturing infrastructure. The interest in our solution continues to grow, and IAA was a major stepping point in highlighting our technology to leading industry participants. The recognition and momentum around the product are growing, and so, like many others, our excitement is growing. In our discussions with global OEMs at IAA, it was clear they're beginning to understand that Westport's hydrogen HPDI fuel system solution addresses the portion of the market not addressed by electrification and does so in a more affordable way than a fuel cell. OEMs recognize that full electrification of all applications is not possible, and utilizing internal combustion engines is a compelling option. The tide is turning and the conversations are shifting. The cost realities and engineering limits for electric solutions for heavy-duty applications are sinking in with OEMs. We remain committed to the idea that there will be a full suite of options in the future, but it's becoming strikingly clear that electric doesn't meet the needs of heavy-duty, long-haul transport, while hydrogen HPDI does. Following IAA, we spent time in Brussels and Washington, D.C., where we had policymakers and OEMs looking more seriously at internal combustion engines and alternative fuels, and recognizing these will play a larger role in the solution for lower emissions future. In Brussels, we presented our hydrogen HPDI fuel system to key policymakers, highlighting its ability to substantially reduce CO2 emissions in alignment with EU decarbonization goals. Becoming part of the conversation now is important, as work is being done to shift sentiment given that internal combustion engine technologies weren't being recognized as part of the solution for our future. It's our hope that the EU Commission and member states prioritize the availability of green hydrogen for the transport sector in the coming years and support engine technology advances that will be key for the development of the whole hydrogen transportation sector. Our message is clear. The lowest cost of CO2 abatement is using internal combustion engines fueled by HPDI technology, representing the most cost-effective pathway to deep decarbonization of long-haul road freight. In Washington, D.C., we participated in the Hydrogen America Summit, exploring the topic of hydrogen mobility applications. One of the focal points of the discussion was exploring opportunities for widespread mobility decarbonization through hydrogen combustion, an area in which hydrogen HPDI can take the lead for heavy-duty transport. Every time we get in front of industry participants and policymakers, it's a win, as we advance our story and highlight our lower-cost solution for using advanced internal combustion engines with hydrogen to make a long-term contribution for decarbonization. Engines equipped with our fuel system provide a superior combination of attributes as compared to fuel cell systems, diesel-fueled engines, and spark-ignited IC engines, including greater efficiency, higher power density, as well as lower total cost of operation, TCO. We think we have the solution for hydrogen utilization in heavy-duty transport and remain committed to spreading our message and educating potential OEM customers on the unique and significant potential our technology brings. As our analysis has made clear, and as industry observers have noted, IC engines fueled with hydrogen or biomethane can achieve equal or greater CO2 reductions as compared to fuel cells while preserving manufacturing and capital investments. Our hydrogen HPDI fuel system offers more power, more torque, and more efficient use of hydrogen, and therefore the best opportunity for hydrogen IC engines in real-world usage. Biomethane and the growth we've seen this year in usage in heavy-duty transport is an area we're excited about, as 100% biomethane in HPDI achieves 100% well-to-wheel CO2 reductions. Let me say that again. HPDI with 100% biomethane achieves 100% well-to-wheel CO2 reductions. As the share of BioLNG increases and the size of the deployed fleet increases, the total CO2 reductions, well to wheel, accumulate rapidly. Continuing this momentum is key to mitigating the full effects of climate change, and the speed of mitigation is paramount. With the increasing substitution of renewable fuels like biomethane, our products can further decrease the greenhouse gas impact of transportation. and they do so much more affordably than battery electric vehicles, for example. HPDI with natural gas and renewable natural gas works, and it works well. It's available now and can help lower operating costs while helping fleets achieve their carbon reduction targets. Take note of what's happening in Europe right now. Support for renewables and biomass continues to increase in the wake of the EU energy crisis. In the third quarter, the European Parliament voted to increase the use of renewable energy from 40% to 45%, while biobased joint undertaking is estimated to allocate $2.4 billion for private investment in biomass infrastructure by 2024. Why all this talk about biomethane, you might ask? Because biomethane is today's hydrogen. It's available. It reduces greenhouse gases. It's affordable. It's scaling right now, and HPDI works today with biomethane and hydrogen tomorrow. Development and testing of our hydrogen HPDI fuel system solution is a key step to providing our customers with a pathway to significant emissions reductions, and we have projects underway now that I wanted to provide an update on. We recently announced impressive test results from our joint demonstration program with Scania. As you know, we applied our hydrogen HPDI fuel system to Scania's 13-liter CBE-1 platform. Scania's next-generation, best-in-class engine intended for Euro 7 on-highway emission standards. Test results using our hydrogen HPDI solution, which requires a limited redesign of the cylinder head and no redesign of the piston, external gas exchange system, or crankcase ventilation system, show performance with peak brake thermal efficiency of 51.5%. This is complemented by 48.7% brake thermal efficiency at road load conditions. This is a significant achievement, given that the 50% break thermal efficiency mark with diesel has been seen as the industry's loftiest goal, and we're able to eclipse this number by 1.5 percentage points, truly validating our technology. In addition, we demonstrated that hydrogen can be combusted at the same compression ratios as the diesel engine uses without knock limitation that all SI hydrogen engines are struggling with. The fact that we've achieved higher BTE over and above best-in-class engine simply by changing the fuel system while retaining the engine architecture and the on-engine HPDI fuel system components demonstrates the tremendous value in best-in-class performance that HPDI offers. What further excites us is the strong potential for industrialization and a commercial product launch. This isn't just a laboratory test. Hydrogen to HPDI has all the ingredients to be turned into a product appreciated by truck drivers and fleet owners. The feedback from the announcement has been significant. OEMs have been reaching out to us. We remain very optimistic that the compelling benefits of hydrogen HPI will lead to commercial availability later this decade. We're proud to partner with Scania for this demonstration program and are looking forward to next steps. In addition to our work with Scania, we also have a program underway with TUPE and ABL aimed at combining advanced material and casting technologies with hydrogen HPDI We anticipate being able to detail the results of this collaboration in late in the first quarter of next year. And just a reminder, hydrogen HPDI offers low TCO, nearly 20% lower than a fuel cell vehicle, just within five years and 580,000 kilometers. For the truck customer, it's a lower upfront acquisition cost with a proven design and durability. For the OEM, it's a familiar product and the ability to reuse substantial investments that have already been made in powertrain manufacturing and supply chain. A nearly 20% reduction is a significant number, and it's steering conversations with more potential OEM partners, as is the opportunity to avoid new investments in fuel cells, batteries, and motors, and to reuse existing engine manufacturing assets. The results from the work we continue to do in these projects are informing our current customers and other industry players, and importantly, are bringing us new potential OEM customers. Now switching focus to the left of the LPG market. Despite the headwinds, which I discussed earlier, we're seeing strong demand and higher sales in key markets like Poland, Algeria, and Peru. The large and increasing price advantage of LPG compared to petrol is driving our results also in the Netherlands, Italy, and Turkey. We're implementing price increases to mitigate the effect of inflation. To date, we've achieved some success as margins grew slightly in the quarter. Surely we have more work ahead of us since there's no sign that inflation is going away. Fuel and geographic diversities are important core aspects of our overall offering. We can pick up market share in areas where the spread between petrol and alternative fuels is favorable. This includes growth in new markets like Thailand, Peru, and Bolivia, all emerging markets with regulations emphasizing the need for cleaner transportation. In Peru, for example, we're seeing a growth trend emerge. The price of LPG compared to gasoline is nearly 70 cents a liter cheaper. This is a significant spread in a cost-sensitive market. In India, despite the recent spread narrowing between CNG and petrol, the overall trend continues to be positive. Currently in the Indian market, the average running cost of a CNG-fueled vehicle has jumped from 1.2 rupees per kilometer to now 2.6 per kilometer. But the running cost of gasoline-fueled vehicles is nearly double that at 5.1 rupees per kilometer. This favorable operating cost advantage for CNG supports our positive outlook for our business in India. In fact, at IAEA, we met with several Indian OEMs who have expressed interest in many of our solutions, including HPDI with methane and hydrogen. The CNG filling network in India is expanding quickly, with the government committed to have the number of filling stations increase by 10,000 by the end of the decade. Westport is poised to benefit from the impact of products we offer are used in all OEMs. In summary, despite the macro headwind that we face, high fuel costs and continued focus on carbon emissions create opportunities for our business, as both industry operators and end customers look for lower-cost options. What we're seeing in key markets with LPG is a clear example of that.