Tecogen Inc

Good morning and welcome to the TECOGEN third quarter 2022 conference call. At this time, all participants are in the listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. Please note this conference is being recorded. I will now turn the conference over to our host, Jack Whiting, General Counsel and Secretary. Thank you. You may begin.

Good morning. This is Jack Whiting, General Counsel and Secretary of TicoGen. Please note this call is being recorded and will be archived on the investor section of our website at ticogen.com for two weeks. The press release regarding our third quarter 2022 earnings and the presentation provided this morning are available in the investor section on our website as well. I'd like to direct your attention to the safe harbor statement included in the earnings press release and the presentation. Various remarks that we make about the company's future expectations Plans and prospects constitute forward-looking statements for purpose of the safe harbor provisions under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in the company's most recent annual report on Form 10-K and quarterly reports on Form 10-Q under the caption Risk Factors, which are on file with the Securities Exchange Commission and available in the Investors section of our website under the heading SEC Filings. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so. Therefore, you should not rely on any forward-looking statements as represented in our views as of any date subsequent to today. During this call, we will refer to certain financial measures not prepared in accordance with GAAP. Reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures is provided in the press release regarding our third quarter 2022 earnings and in the investor section of our website. I'll now turn the call over to Benjamin Locke. Thank you, Jack.

So as the agenda on slide four indicates, we'll start with a brief company overview, followed by a detailed review of our third quarter 22 results. We will then discuss the key takeaways from the earnings and turn the call over to the operator for questions. As a reminder, this presentation will be available for download in the presentation section of our investor page on our website. Turning to slide five, I'd like to provide a short overview of Kikogen's core businesses. Kikogen sells and maintains clean and efficient energy systems that provide resiliency and energy savings to customers while reducing greenhouse gas emissions for a cleaner environmental footprint. Our solutions help industries and facilities reach their environmental goals for carbon reduction while also providing resiliency to grid outages. TicoGen has deployed thousands of these systems, and we have a steady recurring revenue stream through our 11 service centers that provide long-term operations and maintenance services for TicoGen cogeneration and chiller systems. Turn to slide six. Our distributed generation systems can operate as microgrids for power generation and grid resiliency, as shown on the left here. These features are increasingly important as the grid becomes increasingly burdened, congested, and costly. In addition to our distributed generation system, TECOGEN offers clean cooling solutions for commercial and industrial facilities. Our chillers, shown in the middle of this slide, provide customers with lower operating costs and a reduced greenhouse gas footprint compared to traditional cooling solutions. We've had particular success with our clean cooling products for use in controlled environment agriculture. These indoor grow operations use a tremendous amount of power to maintain precise grow conditions. Our chillers substantially reduce the amount of electric capacity needed to operate the facility, while simultaneously providing cooling and heat for facility heating and dehumidification. Our success in the controlled environment agriculture market has led us to expand our business development efforts to extend the scope of our participation in CEA facilities in the food production sector. I will talk more about this separate later in the call. Before I turn the call over to Abhinav for a review of our third quarter numbers, I'd like to remind investors of our three main revenue streams shown here on slide seven. Our product revenue consists of sales of cogeneration units, microgrid systems, chillers, and associated equipment to a range of markets and customers. Our service revenues primarily consist of our contracted operations and maintenance services, with a small component of installation services. Our energy production revenue stream is from energy sales, including sales of electricity and thermal energy produced by our equipment onsite at customers' facilities. With that, I'd like to turn the call over to Abhinav to review our numbers in more detail, and then we'll have some additional comments on takeaways from the quarter and comments about our expectations for the rest of 2022. Abhinav?

Thank you, Ben. Q3 revenue was $6.6 million compared to $5 million during the same period in 2021. This 31.9% increase was mostly due to the increase in product revenue, but all segments showed growth. I will discuss the revenue by segment in more detail in a later slide. Our cash balance at the end of the quarter was $2.9 million, which was slightly higher than at the end of Q2 22. Gross margin decreased to 44% from 47% compared to 21 due to the higher cost of materials. Some of the orders that shipped in Q3 had higher margins because of the price increases instituted earlier in the year. We plan to be making further adjustments to price over the upcoming quarters. Operational expenses were 4.3% lower compared to Q3 21 at $3.11 million. This was partially due to a reduction in bad debt reserves, and the R&D expenses were higher due to costs associated with the development of the hybrid air-cooled chiller. The operating loss was $214,000, and the net loss was $257,000, or one cent per share. The higher net income in Q3-21 was due to the employee retention credit and the forgiveness of the Paycheck Protection Loan. EBITDA. EBITDA loss was $141,000 and adjusted EBITDA loss was $74,000. In Q321, EBITDA income was $1.5 million and adjusted EBITDA was a loss of $197,000. Q321 was favorably impacted by the employee retention credit. Performance by segment. Products revenue increased by 71%. In particular, the chiller revenue increased 329%. Our product margin decreased from 45% to 35% in Q3 22 due to the increased costs of materials partially offset by price increases. Service revenue increased 9% compared to Q3 21 due to the increased number of service contract and price increases associated with those contracts. Our service margin increased to 52 percent from 48 percent. Energy production revenue increased by 6 percent. Energy production margin increased to 50 percent compared to 47 percent quarter to quarter. The overall gross margin was 44 percent. I will now hand the call back to Ben to talk about the earnings takeaways.

Thanks, Abhinav. So, turning to slide 11, I'll discuss what I feel are the important takeaways from the I think the biggest takeaway, of course, is the revenue growth, up 32% over Q3 of 2021. This was driven by increases in product sales with an even mix of cogeneration and chiller product. As you've seen through the press releases throughout the quarter, we continue to make progress in key market segments, such as controlled environment agriculture, multi-unit residential buildings, and large schools or other municipal buildings. Some of these sales are directly attributable to new sales partnerships established earlier this year. In particular, we were pleased to receive a multi-unit order from our large ESCO. This is the first order from this ESCO, and we are expecting additional orders as the relationship builds. Next, we are starting to get more definition on the new investment tax credit for both our cogeneration and chiller systems. The new ITC is worth up to 40% because our products satisfy the domestic content requirements and may be transferable to third parties. Importantly, the new ITC has a direct pay alternative for nonprofits and municipalities. We, like many others in the clean energy industry, are awaiting the final details from the IRS and how the ITC can be monetized by our customers. We expect this guidance next month. Another important takeaway occurred after the quarter ended But the collaboration with the Gas Technology Institute announced Tuesday will help bring our hybrid drive AC chiller through testing in anticipation of commercial launch later in 2023. We expect to continue our ongoing effort to work with various gas companies to establish pilot demonstrations for the hybrid drive after the GTI testing is complete. I hope to have more announcements in this regard in the coming months. And lastly, we ended the quarter with a backlog of $6.9 million of product, and product backlog as of yesterday was $9.35 million. And as you can see in the chart, it's a good mix of our core markets such as CEA and multi-unit residential. As a reminder, we do not include our recurring service and energy production revenues in our backlog calculation. Turning to slide 12. I'd like to provide a bit of color on our business development efforts in the controlled environment agriculture space. As we had mentioned earlier in the year, one of our focus areas is the controlled environment agriculture, where we have already sold over 13,000 tons of cooling to cannabis facilities and are planning on expanding our offering to food crop facilities. The energy intensity of each type of CEA facility varies depending on the required level of climate control. In all cases, there is a tremendous energy use for grow lights, and in many cases, there is both a cooling and dehumidification load. Our solution offers up to 50% reduction in utility energy expenses, especially in cases where there is a large need for cooling and dehumidification. The exhaust generated can also be used to boost plant growth by upwards of 30%. We have already equipped We already have equipment in multiple food crop facilities and are starting to specify sites to utilize the CO2. Turning to slide 13, to further our CEA ambitions, we established a new business unit. We are creating a new brand known as Net Zero Greens for CEA-grown produce, and we are working on identifying where we can add value. We anticipate developing a simple-to-install modular package for growers to handle their energy needs with the lowest carbon footprint for facility sizes from a single container upwards of a multi-acre controlled environment agriculture farm. The focus will be on having the lowest energy intensity and carbon footprint while also being able to alleviate grid capacity constraints or, in some cases, operate off-grid entirely. As slide 14 indicates, we have already begun testing our real-time optimization algorithms for reducing energy costs for CEA facilities. The same technology for real-time grid controls will also be applied to our hybrid drive air-cooled chiller and other products. The graphic on the left shows a snapshot of the utility grids mixed from the ISO New England. Using the carbon intensity of the grid, Our algorithm blends power sources, in this case solar, utility, and engine, to optimize the cost of operation and greenhouse gas mix. Working in partnership with growers, we plan to pilot this technology in grow facilities by building a small-scale prototype. The next step will be to determine the business model for expansion into CEA and build the financing mechanisms to develop this segment. In conjunction with the investment tax credit, our offering provides growing facilities a way to reduce operational costs, increase yield, and receive a tax incentive to build clean and efficient facilities using our products. Finally, I'd like to revisit the pathway to growth shown on slide 15 that we've been focused on to grow the company. First, we continue to make progress with our chillers for facilities seeking clean cooling solutions where we are the best technology for energy savings and resiliency, particularly when the existing electric grid can't meet the facility's power requirements. Next, as I mentioned, with the GTI collaboration, we are on track in developing our next-generation hybrid drive air-cooled chiller. The hybrid drive will substantially expand our sales potential in many markets, particularly CEA, and we expect to showcase it in February at the 2023 AHR Expo in Atlanta, which is the largest HVAC trade show in North America. We also continue to see promising opportunity for our technology as a foundation for clean and efficient microgrids. We have shown that a cost-effective combination of our clean cooling systems combined with our grid resilient microgrid systems is an effective solution for facilities requiring affordable, and reliable power. We expect grid supply constraints to continue as the nation's aging electric grid becomes further burdened and overloaded due to increased electricity demand. And as I mentioned earlier, the new ITC contained in the Inflation Reduction Act can result in as much as a 40% tax credit for our systems. Finally, as discussed, we established a new business unit focused on controlled environment agriculture. Given projected population growth and the impact of climate issues on food production, the need for intensive farming techniques in controlled environments is expected to grow substantially. As a result of our interactions with numerous industry participants in the CEA market, we believe that TECOGEN can have additional opportunities to provide equipment and services that addresses the energy-intensive requirements of CEA facilities. We are focused on additional roles that TECOGEN can play in developing maintaining and operating CEA facilities, and hope to have more updates for investors as our discussions with participants in the CEA market progresses. So in conclusion, I hope to continue showing results against these goals, and I look forward to providing updates over the next few months. With that, I'd like to turn it over to the operator for questions.

Thank you. And at this time, we'll conduct our question and answer session. If you would like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Once again, to ask a question, press star 1 on your telephone keypad. Our first question comes from Bill Church with TGRA Capital. Please state your question. Yes, good morning.

Thank you.

Hi, Bill.

Good morning to you. Hi, good morning. My question has to do with the CEA market, and if this includes vertical farming, and I'm thinking some of the Canadian companies, CropOne and so forth.

With CEA, yes, it does include vertical farming. It can include anywhere where everything from a greenhouse with a controlled and without greenhouses that don't just open windows to anything that is completely enclosed and has full climate control. Right now, most of our facilities have been non-vertical farms, but the energy requirements are pretty much you know, similar whether it's vertical or whether you're, you know, you're having a single layer. So we can definitely, our energy solutions can be applied to vertical farming with no issue.

Yes, you know, I was thinking about that. I've been doing some research on some of these Canadian companies specifically that have raised a lot of capital in the last year or two. And I guess that would be apply up in Canada. The weather is not quite as conducive to growing as it is here, but It looks like that's an interesting opportunity. Thank you.

We actually have some equipment at a cucumber farm in Ontario.

Oh, okay.

I think the crops, again, of course, we've talked about the cannabis stuff, but the food crops that we've been involved with, again, we mentioned the cucumber one. I think the leafy greens is probably the one where we've got, again, from the food crop standpoint, the most exposure. That's the one we're seeing a lot of potential expansion into and is very conducive to vertical farming and all these intensive growing techniques. And, again, what the common denominator on all these things are, Bill, of course, is the energy needed to do it and where the grid is and can the grid give you enough. And if they can't, what are you going to do?

Yeah, yeah, yeah. Okay, good. Thank you very much.

Yeah, nice to talk with you, Bill.

Thank you. And, once again, to ask a question, press star 1. Our next question comes from Alex Blanton with Clear Harbor Asset Management. Please state your question.

Hi, thank you. Hi there, Alex. Ben, congratulations on a very good quarter and the increase in the backlog. Thank you. I like the fact that you put a link to the quarterly report on the home page of the website. That's really a very good thing to do because it makes it easy to find the numbers.

Sure. I'm glad you found that, and I'm glad it was helpful.

Very good. On the CEA industry, do you have some references that we could go to to learn more about that industry, like trade organizations, industry associations? Do you have anything like that?

Yeah. Well, I think, Alex, I'll answer it this way, which is a lot of the the art and the technology that goes into intensive grow facilities like CEA is shared within the cannabis space. You know, the growers and some of the others were talking about the hydroponic growing, the intensive growing is really being done by the cannabis folks. And that's my only way of saying our exposure to all of those things is by proxy via our cannabis trade show interactions. In fact, next week, is a big one. Next week is called MJBiz. You probably don't know it, but it's probably one of the... MJBiz. MJBiz. It's one of the leading cannabis shows in the country each year. And of course, we're going to be there. It's in Las Vegas. We'll have a whole team of people there. But it's not just to make inroads in business development and cannabis, which of course we're going to be doing, but it's also going to be to build on these relationships with the growers and the greenhouse providers and the guys providing money into these facilities because, again, they're not just investing in cannabis. They're investing in leafy greens. They're investing in cucumbers and some of these other things. So even though it's a cannabis-focused event next week, we fully anticipate rubbing elbows with the guys that we want to be rubbing elbows with in the CEA space. Are you talking B-I-Z? B-I-Z, MJBiz, yeah, yeah. You might even get an email from us, Alex, because we're going to do a pre-show email thing, and I'll make sure that you're on it. You can see what our booth number is, et cetera. But, yeah, MJBiz is probably the biggest cannabis trade show in the country.

Okay, thank you. The new ESCO, could you give us a little more color? How did you get that relationship? Why did they take you on? What's the potential from that relationship and so on?

Well, thank you for noticing that, Alex, because it's actually a very good development for us. And it is indeed an ESCO that we had not been working with previously. And in fact, an ESCO that was, for whatever their reasons were at the time, using a competitive product. But that situation doesn't exist anymore. They've decided that they want to focus on using TicoGen projects and focusing their efforts on developing projects around TicoGen products. And so now we had this initial order with them that we announced, I guess it was a September Avanade, right? Yeah. For a few units. We fully anticipate more orders from them. In fact, our sales efforts with them are quite collaborative, very collaborative. And it's a really good development for us where we have somebody that was in the past maybe not someone that could drive sales for us, but now is very much driving sales for us. And you throw in the ITC, you know, Alex, and we've got a pretty good winning proposition. And it's not just those folks. We established some new relationships on the chiller side of things too, different reps, different sales agents. And I don't want to name drop. I can't right now. But you'll be seeing sales coming forward with these new sales relationships that we've developed. And that's hugely important because, again, Alice, I think, as you know, what we do best is support, do technical support of sales. And to the extent that we've got our partners out there selling and knocking on doors and doing all that, and we're doing the backup work, that's a good place for us in terms of our resourcing.

Thank you. One more question. On the pricing side, you mentioned that your margins were affected by material cost increases. I assume there's labor and freight too. To what extent are your prices constrained by fixed price contracts? It might be in the backlog that going forward, will have a lower effect because you're pricing new contracts with up-to-date costs.

It's a spot-on question, Alex, and I'll answer, and maybe Aminat can give some color, but you're right. We committed to pricing on some things, and our pricing is good for 30 days, but sometimes you want to give flexibility in that to allow a project to succeed. And right, projects are now going forward with lower margins because the pricing was what it was a few months ago when it was going forward. But we're slowly getting all those price increases up to speed. New proposals going out are getting the new pricing. And so you're exactly right, Alex, that come 2023, our hope is that the adjustments that we've made in our pricing will now reflect to the proposals that are out there in the market and get our margins right back up to where they ought to be. But it's a challenge. I don't need to tell you about what the supply chain issues. It's not just me. It's the entire world of inflation and price increases and lead times, et cetera. And I don't want to complain about all those things. We have to deal with it. And I think we're dealing with it pretty good in terms of timing our price increases and making sure that our inventory levels are so that we can maintain our delivery times for backlog.

Anything to add, Abhinav? Yeah, the only thing I was going to add is usually you're like as you saw in this quarter, right, we saw a little bit of an increase in margin compared to last quarter. But there's going to be part of the next couple of quarters that will have the full new price. Some of them might have slightly lower prices. But we're starting to see material prices level off. But more fundamentally, what has happened with the investment tax credit is it allows us to actually raise prices further than where we are today, just because of the fact that a customer is going to get a 40% discount on an overall project. So that gives us a little more pricing flexibility than earlier. So hopefully we can, even if we see a little bit of a, you know, some of the projects in the next quarter or so that might have slightly lower margin as we get into second and third quarter, once the guidance from the IRS comes out, we'll be able to raise prices commensurate with making sure we get our margin where they were last year. Thank you.

Any problems with supply chain shortages?

Oh, how much time do you have? Yes is the answer, but again, without going into it in detail that's not really needed here, we're managing it. We're finding alternative vendors. We're The long lead time items we're getting on top of and we're making, importantly, we don't want those delays working into our own delays to our customers, right? We want to be able to meet all of our commitments to our backlog. And at this point, we can't because we've been planning it. But that's not to say it's been without headache, but we're there. Hey, Alex, I wanted to mention something else about service, about margins and service in particular. Just so you know, all of our service contracts have escalators that are tied to CPI. And so as inflation has driven CPI up, so goes our service contracts. So that's self-adjusting, which is nice. It's not like the products where we have to initiate a price increase and go to our customers with that. The service contracts have those escalators all built in. And so we feel pretty confident that the inflationary effects are not going to affect our service margins.

Yeah, that's terrific. That's good news. The transcript of this call will be available on your site. Yeah.

I think it takes some time, but eventually it will be, Alex. We'll make sure you get it.

That would be very good to have. Okay. Thank you very much. All right. Thanks, Alex.

Yeah. Bye-bye.

Thank you. And just a reminder, to ask a question at this time, press star 1 on your telephone keypad. To remove yourself from the queue, press star 2. Our next question comes from Michael Zook. Please go ahead.

Hi, Mike. Good morning, everybody. Ben, could you give us an update on the challenges and opportunities still in New York City?

Sure. Yeah, of course. You know, New York City is still a great opportunity for our equipment. If you put aside maybe some political things that go on there, electric rates are still high. You know, gas has gone up, but that's fine. As you know, Mike, we naturally hedge with gas because if gas goes up, you know, the gas that they would have needed to run their boilers would have gone up, and, of course, we're supplying heat to them as well. So we're naturally hedged with gas. And, of course, the gas prices going up drives electric rates up, which creates the natural environment for our equipment. And so New York still remains to be a prime opportunity for us. We've had a couple of orders there this quarter. Local law, this mandate that they have, Local Law 97, you might have heard us talk about it before, that requires people to reduce their carbon footprint of their building by certain amounts each year. And then in 25 or 26, I suppose they're going to start handing out parking tickets, and you're going to have to start paying those parking tickets. And so our cogeneration systems help that situation. It reduces your carbon footprint. So even though there's not incentives and even though there's not all the support that used to be for cogeneration back in the day, it's still the natural market forces for cogeneration are very strong in New York and we still continue to have sales there.

And then to change the subject slightly, how competitive is our equipment if we have the opportunity to use hydrogen as a stoker fuel?

Well, that's a question. You know, the hydrogen question has come up a lot. And the way I always think about it, Mike, is I'm going to burn what comes out of the pipeline. And if the pipeline gets to the point where they've got a 5% hydrogen injection, that's fine. I can live with that as long as all the other equipment at the end of that pipeline can burn that fuel. So can I. If they start filling the pipeline with so much hydrogen that all those other appliances can't burn it, well, I'm just like them. And so the assumption I have is that the hydrogen addition to the pipeline is going to be somewhere it can handle it, and appliances can handle it, 10%, 15% perhaps. And I'm just fine with that, and I'll go along with that. But I'm not going to be developing, just so you know, Mike, and you can call my word on this, I'm not developing 100% hydrogen engine here because I'm fundamentally believing that the pipeline gas that comes out and the percentage of hydrogen that goes into that is going to be fine with me because it's going to be fine with every other appliance at the other end of the pipeline.

Gotcha. And then what's the status on opportunities in California?

Yeah, well, you know, interesting you ask that. You know, California, you know, distributed generation in California is a little tricky because they don't like, you know, fossil fuel burning generation assets. But our chillers, I think, are what we continue to really focus on in California, because you don't have to get an interconnect permit for the chiller. You have to get an air permit, but of course, we have our Altera emissions, so we're not too concerned about that. So the opportunity in California in the near term is still with chillers. Mike, we're trying to understand some of the aspects of the, again, this Inflation Reduction Act had a whole lot of incentives for microgrid controllers. And that's, you know, the green cabinet on our box is a microgrid controller. If I wasn't getting the ITC because we're CHP, I'd get that ITC through the back door of my microgrid controller. So I think there's going to be more opportunity there. But again, we really need to see the IRS guidance on how they're going to lay it out and what the opportunity is to see if we might even be able to do more in California than we're doing now.

The only thing I wanted to add on that, Mike, was the hybrid drive. is likely to also unlock some projects in California, just because of the fact that you could treat our hybrid-drive chiller as an electric chiller with a gas backup or a gas chiller with an electric backup. In that sense, California, at least the way the regulations seem to be moving, is they seem okay with using diesel generators for peak demand events and those kind of things. Using a chiller that could run on a renewable source or a clean grid when it's available and then basically maybe using the engine for just short periods of time could be a good way for clients to save money but not necessarily have an issue with running an engine-driven product. And the second piece is there are still various cannabis opportunities that are still being developed in that space that we're starting to see some potential there, which might also create some other opportunities that we haven't always seen in California.

Well, again, congratulations on the progress that's being made, especially in the CEA area and with the new electric chiller. And I look forward to continued progress. Keep up the good work. Thanks.

Appreciate it, Mike. Take care.

Thank you. There are no further questions at this time. I'll turn the floor back over to Benjamin Locke for closing remarks.

Yeah, so thank you all for joining our call. Our next call won't be for a year-end call in March, but I anticipate that we'll have further updates as the months go on, particularly in our core markets and our CEA space. So thank you for all your investors. I'm feeling really confident about our prospects for the future, and I hope to share them with you going forward.

Thank you. This concludes today's conference. All parties may disconnect. Have a great day.