FTEK - Fuel Tech: Mixed 2022 Results But I Remain Bullish

2023-03-23 15:30:00 ET

Summary

• Revenues for 2022 increased by 11%, but the operating loss expanded slightly due to global supply chain issues.
• The order backlog is solid, and I think that 2023 revenues could surpass $30 million which should put Fuel Tech in the black.
• The company has a strong balance sheet with cash and investments equal to almost 90% of its market capitalization.
• I rate Fuel Tech as a speculative buy.

Introduction

It's been just over a year since I last wrote about air pollution control technologies supplier Fuel Tech (FTEK) on Seeking Alpha. Back then, I said that increasing revenues in 2022 was crucial for the company to return to the black. I think this is a good time to take another look at Fuel Tech as it recently posted its 2022 financial results . In my view, last year's results were a mixed bag for the company. On one hand, consolidated revenues rose by 11% to their highest level since 2019 thanks to an operational rebounding of the air pollution control business segment. On the other hand, the operating loss expanded to $1.53 million as global supply chain issues led to a higher cost of sales. Overall, I think that 2023 is likely to be a better year for the company and that the latter is undervalued. Let's review.

Overview of the 2022 financial results

In case you haven't read any of my previous articles about Fuel Tech, here's a short description of the business. The company specializes in the development and application of multi-pollutant emissions control and water treatment technologies in the USA. It also sells air pollution control systems abroad, specifically in Europe, Latin America, India, and in the Pacific Rim. Fuel Tech currently has subsidiaries in Germany, Italy, China, and Chile.

Fuel Tech employs about 65 people and its business is split into three segments, namely Air Pollution Control, Fuel Chem, and Dissolved Gas Infusion. The Air Pollution Control arm specializes in technologies for the reduction of NOx emissions in flue gas (sometimes called exhaust gas or stack gas) generated by the firing of natural gas or coal from boilers, incinerators, furnaces, and other stationary combustion sources. Its main clients include coal and natural gas plants. The Fuel Chem business focuses on chemical injection programs for the control of slagging, fouling, corrosion, opacity, and other sulfur trioxide-related issues in coal-fired furnaces. The Dissolved Gas Infusion segment, in turn, relies on a patent-pending channel injector and a patent-pending saturator to deliver supersaturated oxygen solutions and other gas-water combinations to target process applications or environmental issues. This technology is an alternative to conventional water and wastewater treatment aeration.

Fuel Tech has completed over 1,200 installations in 26 countries worldwide to date and its clients include Enel ( ENLAY ) ( ESOCF ), Endesa ( ELEZF ) ( ELEZY ), and Engie ( ENGIY ) ( ENGQF ) among others. The growth of the business is dependent upon the adoption and enforcement of environmental regulations across the globe.

Turning our attention to the 2022 results, we can see that revenues increased by 11% to $26.9 million. The improvement was driven by strong results in the Air Pollution Control segment as its revenues soared by 54% to $10.6 million thanks to new orders and the timing of project execution. Revenues for the Fuel Chem business declined by 6% to $16.3 million as it lost a major customer. Unfortunately for Fuel Tech, the operating loss widened as the gross margin in the Air Pollution Control business slumped to 35% from 49% due to supply chain costs and product and project mix. The gross margin for the Fuel Chem segment remained unchanged at 49%.

Looking at what to expect for 2023, I was concerned that the order backlog for the Air Pollution Control business at the end of December was a little thin. It stood at $8.25 million compared to $9.12 million a year earlier. I'm more optimistic now as Fuel Tech revealed in early March that it secured multiple air pollution control contracts with an aggregate value of around $5.2 million . The company revealed during its Q4 2022 earnings call that its effective backlog is now around $12 million. Considering the global sales pipeline is in the $50-75 million range, there could be more major orders coming in the next few months. And with the Fuel Chem business booking a 21% increase in revenues in Q4, I think that revenues for 2023 could surpass $30 million. As supply chain issues are now in the rearview mirror, I expect the margins of the Air Pollution Control business to improve significantly in 2023. Considering the breakeven annual revenue is around $25-30 million depending on the product segment mix, I think the company is likely to book a positive net income for the year.

Turning our attention to the balance sheet, we can see that cash and cash equivalents decreased significantly to $23.3 million as of December 2022. The reason for this is a decision to invest excess capital. In June 2022, a total of $10 million was transferred to the company's investment account and another $10 million was transferred there in December 2022. As of the end of 2022, Fuel Tech had $9.17 million in US Treasury securities with maturities that ranged from three to 36 months.

Fuel Tech has an asset-light business model and cash and investments accounted for $32.7 million of its assets as of December, which is just over 89% of its market capitalization. The company doesn't have any debts.

Looking at the risks for the bull case, I think the main one is a loss of a major customer. You see, the five largest customers accounted for around 61% of net revenues in 2022 (see page 7 here ) which means that the loss of any of them could impact the business significantly. Other risks for Fuel Tech include the adoption of less stringent environmental regulations across the globe as well as labor and raw materials cost inflation.

Investor takeaway

Fuel Tech booked solid revenues in 2022 but that was overshadowed by a higher operating loss. In my view, 2023 is off to a strong start, and revenues for the full year could surpass $30 million. I think the company is likely to book a positive net income for the year. In addition, Fuel Tech has a strong balance sheet with cash and investments equal to almost 90% of its market capitalization.

In my view, strong financial results over the next few quarters could boost the share price to levels of about $1.50 and I rate this stock as a speculative buy.

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