WPRT - Westport Fuel Systems: Avoid On Ongoing Cash Consumption And Risk Of Near-Term Dilution

2023-06-20 02:49:24 ET

Summary

• Last month, Westport Fuel Systems reported somewhat better-than-expected Q1 results, but the business continues to consume significant amounts of cash.
• To avoid potential going concern language in the annual report, the company will likely be required to raise additional capital in the second half of the year.
• With traditional debt financing options appearing limited at this point, I wouldn't be surprised to see the company issuing more equity or equity-linked securities.
• Q2 sales are expected to be impacted by lower HPDI system sales as key customer Volvo transitions to a new series of LNG trucks.
• Given ongoing material cash consumption and the resulting likelihood of additional dilution in the second half of the year, investors should remain on the sidelines.

Note:

I have covered Westport Fuel Systems ( WPRT ) previously, so investors should view this as an update to my earlier articles on the company.

Last month, Westport Fuel Systems or "Westport" reported somewhat better-than-expected first quarter results with both the top- and bottom-lines coming in ahead of consensus estimates :

On a year-over-year basis, sales were up by 7.5% driven by improvements in the company's OEM segment:

Westport reported adjusted EBITDA of negative $4.5 million, up from negative $6.1 million in the year-ago quarter with improved gross margins more than offsetting a 10% increase in operating expenses.

Free cash flow for the quarter was negative $11.6 million. After accounting for debt service obligations, cash and cash equivalents declined by $14.2 million from the end of last year to $72.0 million:

Subsequent to quarter-end, Westport entered into a settlement with Cartesian Capital Group ("Cartesian") to terminate the existing royalty agreement in exchange for $8.7 million in cash consideration, which included the release of the security interest in the company's HPDI 2.0 fuel system intellectual property.

After accounting for the settlement payment and assuming cash outflows for the remainder of the year being largely consistent with Q1, Westport's remaining liquidity would be down to approximately $20 million by the end of this year.

According to management's statements during the questions-and-answers session of the conference call , the company continues to evaluate options with regard to raising additional debt by potentially leveraging its European operations:

Eric Stine

(...) Last one for me, maybe for Bill, just, I know that potentially securing more debt, just feel more comfortable on the balance sheet has been a priority. And I know that that's often centered in Italy where a lot of the operations are in the light-duty business, so maybe just a status update on that.

Bill Larkin

Yes. No, we are continuing to pursue options around debt financing. I was just over in Italy a few weeks ago meeting with our local banks and talking about what options we do have available. It is attractive. There are still tie-in government programs available, which essentially, they guarantee the debt, which in turn drives a substantially low interest rate on those loans. So, we are going to go - we are in discussions with the banks and pursuing those, as well as we are evaluating other options here at the corporate level in terms of debt financing.

To be perfectly honest, I do not expect Westport to succeed in raising a material amount of government-guaranteed loans in Italy as there tend to be high hurdles to these programs.

Apparently, the company will have to consider other options which are likely to come down to the issuance of convertible debt or even an outright equity sale in the second half of the year in order to avoid going concern language in the 2023 annual report.

On the conference call, management also commented on Westport's near-term outlook. With HPDI (High Pressure Direct Injection) system launch partner Volvo ( VLVLY , VOLAF , VOLVF ) currently transitioning to a new series of LNG trucks, the seasonally strong second quarter will be impacted by lower HPDI system sales but management expects to make up for the near-term decrease towards the end of the year.

Please note that Westport's existing HPDI system contract with Volvo is scheduled to conclude in early 2024. On the conference call, management remained optimistic about securing an extension at acceptable terms.

In China, Westport continues to work with joint venture partner Weichai Power ( WEICF , WEICY ) on the eagerly-awaited commercial launch of HPDI system sales but, unfortunately, management had nothing really new to offer in this regard:

In China, we continue to support Weichai as they work with their customers, the Chinese truck OEMs, to bring HPDI-equipped vehicles to their market. This includes demonstrations and field trials. We remain optimistic about the launch of production and sales, especially now that LNG prices in China have declined. China is the largest natural gas tracking market in the world by far and measured in terms of volume and market share and has stringent emissions targets that are supportive of both LNG and biomethane.

LNG prices have been normalizing in China with prices just recently at a 21-month low, a significant drop from the elevated levels we saw last year. We're encouraged by the ongoing work we're supporting and the improving market conditions. Similar to the rest of the world, we're also building significant interest in China for our hydrogen HPDI offering as an affordable path to using zero carbon hydrogen in long-haul heavy-duty applications. Bottom line, our HPDI opportunity in China is significant using LNG and biomethane today and hydrogen in the future.

In the fourth quarter, the company is scheduled to commence LPG system deliveries to a global OEM under a €38 million two-year contract announced last year.

Management expects no significant near-term capital expenditures related to the upcoming launch albeit some investments in working capital will be required. Overall, gross margins should benefit going forward.

Bottom Line

While Westport Fuel Systems reported somewhat better-than-expected first quarter results, the business continues to consume material amounts of cash which is not likely to change anytime soon.

In order to avoid going concern language in the 2023 annual report, the company will likely be required to raise more capital in the second half of the year. While management continues to explore options for securing additional debt, I wouldn't be surprised to see the company issue either convertible debt or outright equity later this year.

In addition, management expects second quarter sales to be impacted by lower HPDI system sales as key customer Volvo transitions to a new series of LNG trucks.

Given ongoing, material cash consumption and the likelihood of additional dilution in the second half of the year, investors should remain on the sidelines.

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