Thank you for standing by. This is the conference operator. Welcome to the Westport Fuel Systems Fourth Quarter and Fiscal 2018 Financial Results Conference Call. As a reminder, all participants are in a listen-only mode and the conference is being recorded. After the presentation, there will be an opportunity to ask questions.

[Operator Instructions] I would now like to turn the conference over to Shawn Severson with alphaDIRECT Advisors, Westport’s Investor Relations representative. Please go ahead, Mr. Severson..

Thank you and good afternoon everyone. Welcome to Westport Fuel Systems fourth quarter and fiscal year 2018 conference call which is being held to coincide with the press release containing Westport Fuel Systems financial results that went out this afternoon.

On today’s call, speaking on behalf of Westport Fuel System is Chief Executive Officer, David Johnson and Acting Chief Financial Officer, Jim MacCallum. Attendance at this call is open to the public and to media, 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 law and such forward-looking statements are made based on our current expectations and involve certain risks and uncertainties.

Actual results may differ materially from those projected in the forward-looking statements, so you are cautioned not to place undue reliance on these statements. Information contained in this conference call is subject to and qualified in its entirety by information contained in the company’s public filings. I will now turn the call over to David..

deliver sustained growth of our light-duty and medium-duty businesses through both the aftermarket and OEM channels; accelerating HPDI commercializations; more volume with existing customers; successful launch with Weichai in China; adding new customers and going down the cost curve and increasing our margins; and third, the continued focus on aligning our cost structure with our revenues to improve cash flow and operating results.

2019 is already off to a great start looking forward to the rest of the year and beyond. With that said, I will turn it over to Jim to review our 2018 financials..

Thank you, David. I am pleased to be joining you today as we continue to grow the company and improve its profitability. Having served Westport Fuel Systems for the last 5 years, I am confident that we are on track to becoming a profitable, sustainable organization. 2018 was a strong year for Westport Fuel Systems.

As David mentioned, our consolidated revenues increased by 18% to $270 million. Our adjusted EBITDA improved from negative $19.7 million in 2017 to positive $9.7 million in 2018. We had record profits and dividends from our Cummins Westport joint venture. Our cash position and working capital remained healthy.

Environmental benefits of our market-ready products are well aligned with the European, U.S. and China environmental regulations that are either enacted or expected to be legislated this year. Our team is excited to build on our 2018 results with further improvements into 2019. To review our Q4 and 2018 results in more detail, I will begin on Slide 2.

We closed the quarter with sales of $60.5 million, a net loss of $10.4 million and positive adjusted EBITDA of $0.2 million. Our Q4 and 2018 revenues were in line with our guidance range for the year of $260 million to $275 million.

Q4 2018 revenue increased over Q4 2017, but declined from Q3 2018 due to decreased revenues in Argentina, Russia and Turkey partially offset by increased HPDI revenue.

Operating expenses decreased as a result of lower R&D expenses, but remain high due to elevated legal expenses related to the ongoing SEC investigation and unrealized foreign exchange losses. Our Q4 2018 adjusted EBITDA was a significant improvement over Q4 2017.

And for the full year 2018, the nearly $30 million improvement in adjusted EBITDA resulted from improved margin, lower operating expenses and strong earnings from CWI. As noted during our Q3 earnings call, the positive adjusted EBITDA during 2018 was an important milestone for our loan with Export Development Canada, one of our senior creditors.

On March 1, 2019, we triggered the release of that security position against certain of our assets and this resulted in a reduction of the interest rate on this loan from 9% to 6%, as well as the waiving of certain fees. This will translate into meaningful annual cash savings to the company.

In addition, this loan was secured by $5.1 million in proceeds resulting from the sale of the industrial business in 2017 and was held in that restricted account. This $5.1 million of restricted cash was also released on March 1st. Turning to Slide 3, we look at our transportation business segment.

Revenues for the fourth quarter improved by 5% to $60.5 million as compared to the same quarter in 2017 due to strength in the aftermarket business and HPDI sales, offset by the impact of the lower euro in Q4 2018. Gross margins decreased to $12.3 million in the fourth quarter of 2018 from $14 million in Q4 2017.

Gross margin decreased due to product mix and a decrease in higher margin engineering service revenue associated with our HPDI 2.0 launch customer. R&D expenses decreased by 40% in Q4 2018 compared to the prior year from $11 million to $6.6 million and this was in line with the third quarter of 2018.

We expected this decrease in R&D spend as we transition to the commercialization phase of HPDI 2.0. As David mentioned, the development work associated with adapting our HPDI 2.0 technology to Weichai engine platform is well underway.

Weichai Westport is providing a portion of the cash required to fund this work under the development agreement we signed in August. As a result of our tightening R&D spend, adjusted EBITDA in our transportation segment improved over Q4 2017.

Sequentially, however, our adjusted EBITDA decreased from positive $1.8 million in Q3 2018 to negative $3.1 million in Q4 2018. This is primarily due to lower revenue and margin. Turning to Slide 4, we’ll review the results of the CWI joint venture. CWI recorded revenue of $94.1 million in Q4 2018, a 3% increase over Q4 2017.

As anticipated, R&D expenses continued to trend lower and we expect these expenses to remain low going forward as a joint venture is not anticipating any new major R&D projects.

However, during the quarter, CWI recorded a negative after-tax warranty charge of approximately $5 million related to extended warranties and this had a $2.5 million negative impact on our Q4 adjusted EBITDA.

In Q4, CWI recorded net income of $11.5 million or 12% of sales, and during the quarter, Westport Fuel Systems received cash dividends of $8.2 million. Turning to Slide 5, we look at our corporate segment.

SG&A costs increased during the current quarter, mainly due to legal expenses related to the SEC investigation, which were $3.1 million in the current quarter, net of expected D&O insurance recoveries and higher professional fees related to other business initiatives. As noted in our MD&A, we have not received any new subpoenas since August 2018.

Slide 6 shows our cash walk. We started the quarter with $54.2 million and ended the year with $61.1 million. The cash increase primarily relates to $7.2 million in proceeds received from new debt drawn during the quarter, dividends from CWI of $8.2 million and $3.4 million in hold back proceeds.

These increases were offset by principal and interest payments of $5.5 million, capital expenditures during the quarter of $3.1 million, cash used in operations and working capital of $1.7 million and net cash outlays relating to the SEC investigation of $1.6 million.

We will continue to repay principal out of our existing cash flows and don’t have any specific plans to raise capital. In terms of guidance, our Q1 2019 orders to date have been strong as has our order book for the full year, especially from our European HPDI launch customer. We expect a significant increase in our HPDI revenue as compared to 2018.

However, the number of HPDI trucks our European customer ultimately produces in 2019 and Weichai volumes resulting from the launch of HPDI product in China are difficult for us to forecast. The other parts of our business, the aftermarket business, the light-duty OEM business and our CWI joint venture are more predictable and are performing well.

Having said that, we are expecting an increase in Q1 2019 revenue sequentially over Q4 2018 and over the prior-year quarter. For the full year 2019, based on the current 1.13 Euro exchange rate, which is approximately 4% lower than the 2018 average, we are forecasting 2019 revenue in the range of $265 million to $295 million.

We are excited for the upcoming year and strongly believe that we will continue improving our financial performance. Transparency is a key goal of the company and we will strive to make improvements in breaking out our businesses at the appropriate time as we go forward. As such, David and I will also review our guidance policy.

David and I will be attending the Oppenheimer and Craig-Hallum investor conferences in May, and look forward to speaking or meeting with many of you before then. With that, I’d like to turn it over to the operator for questions..

Thank you, sir. [Operator Instructions] Our first question is from Colin Rusch with Oppenheimer & Company. Please go ahead. Colin, your line is open..

One of the stories that we’ve been looking for is some savings on the OpEx side, as you guys move into your new roles with the organization, what opportunities are you seeing to optimize some of that spending as we go into 2019?.

Yes. Hi, Colin, how are you? Good to hear you today. With respect to OpEx, I think as we put our budgets together for this year, we sharpened the pencils and we’re looking at ways to cut wherever we can. But I think fundamentally after a long string of getting those things aligned, I don’t see big cuts, right, that’s the bottom line.

We have done I think a good job and Nancy before me in terms of getting costs aligned. But at the same time, we know that as the business proceeds, we have to keep a close eye on it. So, I can’t identify at this juncture big changes we’re making on our OpEx to move the needle, but it’s ongoing challenge for any company..

Alright. That’s very helpful. And then just a housekeeping question.

CapEx for 2019, how much are you expecting to spend throughout the year?.

I don’t have the number handy, but it will be comparable to 2018, Colin..

Okay. Thanks so much guys..

Our next question is from Eric Stine with Craig-Hallum. Please go ahead..

Hi, everyone..

Hi, Eric.

How are you?.

I’m fine.

How are you?.

Excellent, thanks. Good to hear you..

Good. So, David, maybe first question for you, just I would love to get your thoughts, couple months in here what you’re finding in terms of importance of having two lead customers for HPDI? In key markets clearly from your prepared remarks, it sounds like you do have some expectation to add additional a partner or partners.

And then, just curious, I know it’s early, but have you seen any change from OEMs in Europe in response to the CO2 standards?.

Yes, great question. Thank you very much. I have I mean, as I joined Westport, a key ingredient for me and kind of rationale for joining the firm and taking the charge to go forward was the fact that the company had already secured two very important customers for HPDI. So, our lead customer in Europe, as you know, is in production.

We see the order book from them. It looks very strong. We’re excited about the curve that they’re following.

Anything can happen that’s where the variability we have through the year, as we try to forecast where will come out, but overall the atmosphere and I’ve had a chance to meet with that customer during my travels and they are very positive on what we’ve provided to them and what they’re providing to the marketplace and what they’re seeing in terms of orders fleets going from a couple of units to handfuls to 10s and 20 unit orders, that’s very strong.

We expect a similar kind of trajectory with Weichai in China as we launch later this year, the work we’re doing with them is going very well. We know what we need to provide them, they know what they need to do and all those activities are in place to achieve a launch later this year.

So, as you mentioned, these are two really important customers and two really important markets. We’re just at the beginning of a very exciting time.

And so they are the leaders, right, and we do expect followers in this marketplace with this product and when you apply the European regulations on top of that, which hopefully get confirmed in mid-April that will really turn up the heat on the manufacturers to follow the lead of our – our lead European customer and Weichai..

Got it. Thanks for that. And then just thinking about the outlook for 2019, and I know that FX has a role in that, but it sounds like you’re pretty optimistic on the light-duty business.

So, I mean, maybe just thinking about the puts and takes, low end of guide, high end of guide, I mean, it would seem at the low end of guide that would be assuming very little contribution from HPDI and would be – you’re doing that just because you have very – very little visibility at this time?.

I would say in general that we think – we think we provided the guidance for a reason based on our own study and our view of the marketplace, there’s variability of things we can’t predict, FX matters, all sorts of economic conditions matter, as fuel prices change and the relative fuel price between CNG and petrol and diesel changes, all these things will have a big impact on our business.

Having said that, yes, the HPDI business is very important to it. And coming back to light-duty, we see this as pretty stable, but with growth trajectory. And so like with HPDI, we’re looking forward to signing up new big customers on the light-duty side also.

And we see those opportunities that we’re pursuing those opportunities and look forward to making announcements about the wins we secure not just in HPDI, but in light-duty business also..

Got it. Okay. Maybe last one from me for Jim, just on the CWI warranty charge.

Is that something we should view as one-time in nature or is that something you think persists for a few quarters?.

Yes, I mean warranty gets looked at every quarter, Eric, and we think it’s pretty much a one-time thing. But as you know, there’s a lot of variability in the warranty charge. It relates to some fairly low volumes of one of the older engine platforms. So, we view it as a one-time charge at this point..

Okay. Thanks a lot..

Just to make more sense on those things, you accrue for the charges on warranty what you expect it to be at the time you sell the engine and so we make our best estimates and we’ve got a great partner in Cummins to do that, but when the data starts rolling in you have to make adjustments and so these things happen.

By the way, they can happen in both directions and so we’ll see what happens in next quarter and make the right accounting changes accordingly and hopefully get closer and closer to estimating what’s actually going to happen in real time with the engines..

Right. Okay, thanks..

Our next question is from Rob Brown with Lake Street Capital Markets. Please go ahead..

Good afternoon. Thanks for taking the call..

Hi, Rob..

Just wanted to get into the 2019 guidance a little more, you said – I think, you said stable to modest growth in the automotive segment, and I’m just trying to reconcile that with sort of the guidance which is sort of flat to single-digit growth overall.

Kind of how much conservatism have you baked into the HPDI growth? Are you kind of taking what you have today or you – just some color on how you look at HPDI as part of the guidance?.

It’s a – this is a tricky business. This projecting where you’re going to come out and do it with a reasonable range, but fundamentally, we looked at all the numbers and we think we know are going pretty well.

But at the same time launches especially this one we have in the third and fourth quarter with Weichai who knows, right, I mean, we’ll do everything we can to meet and exceed customer expectations, achieve the full launch curve, but we’ve got to provide all the components that we provide to Weichai, they’ve got to put it in their engines, they’ve got to secure all the other supply of all the other components and they’ve got to build those engines, sell those engines to customers.

So, where does it actually come out, this is I would say the biggest variable in the forecast of the range. The other variable, of course, FX does matter and it is a key ingredient..

Yes. Rob, the FX is down quite a bit from 2018 levels already, so take that into account as well when you’re thinking about our guidance..

Got it.

And I think you said down 4% was sort of the trend line there?.

Correct..

Okay.

And then I guess on Weichai, you gave a little bit of color on the launch kind of timing, but Q3, Q4, you said, but how does that rollout? How many trucks does it ultimately – how many is it on kind of initially and I guess just some sense of how it rolls out, and I guess, it’s hard to predict volumes, but just more structurally how does it rollout?.

Yes. As you know we don’t provide the volumes of individual customers, so I can’t give any more detail really what Weichai expects to do or let alone what will actually happen. Of course, Weichai is a maker of engines and they have to sell those engines to truck buyers.

So, I’m sure there [indiscernible] on their side too in terms of what the order book will look like as they supply engines to their customers. But we’ve got a forecast. We are planning and acting according to that forecast and we have to let the clock tick along and find how things come out in the end..

Okay, good.

And then sort of on the EBITDA level, I know you didn’t give guidance, but directionally do you expect EBITDA to get better in 2019 or just maybe directionally, how do you see EBITDA trending?.

We’ve got a good track record that I’d like to point to based on my predecessor’s work and the team’s work over the last few years of year-over-year improvements. And this is our first full year of positive EBITDA and I wouldn’t hold the job very long if I wasn’t projecting to get better, but I don’t have a number for you..

Got it. Thank you. I’ll turn it over..

Our next question is from Amit Dayal with H.C. Wainwright. Please go ahead..

Thank you. Good afternoon guys.

Just digging into HPDI a little bit, is there any revenue concentration in these revenues of HPDI 2?.

Amit, I’m not quite sure, this is David speaking, not quite sure I understand your question, revenue concentration is that what you said?.

Yes, I mean, is HPDI dependent on one or two key customers largely as most of the revenue coming from limited customers in this front?.

Yes. So, as a general view of the situation, we’ve got our launch customer in Europe as we’ve announced in prior calls and discussed previously. We’ve got Weichai coming on later this year. Beyond that, we expect to have more customers in the future, but we don’t have an announcement to make today, I look forward to making that kind of announcement.

And as that customer base gets more diverse, then we’ll be a little bit more comfortable that if one customer is up and other customer is down, we can be more predictable in our business as we are with our aftermarket business and our OEM business where we have many customers for both of those segments. So, we’re looking forward to that.

But at this juncture, yes, pretty, pretty early in the game, the launch of that product in the marketplace both in Europe and then China is still to come..

Can we expect any new announcements on the customer side for HPDI 2 in that context this year?.

Yes, I do expect them. I don’t know about this year, so the timing is always difficult to predict. And as you know, in our business and being a Tier 1 supplier, we don’t control the timing of those announcements, the timing of those announcements controlled by our customers.

So, there’s two things, one is having that, the other one is being able to talk about it. So, I can’t wait to do so, but don’t have anything to talk about today on that fact..

And in your 2019 guidance, I don’t know if you can disclose this, but how much is HPDI 2 of that guidance or maybe if you could share how much growth you’re expecting in HPDI 2 relative to 2018?.

Yes. I can’t share specific numbers, but let me talk about the business, because I think it’s a very interesting thing and one of the things that drew me to Westport in the first place.

The company has a number of different business units as you know, our aftermarket business is 70 different place in 70 different countries with 100 different distributors serving vehicles of all varieties, both LPG and CNG. It’s a very diverse business.

And I would say, it’s fairly mature still with significant growth potential, but it’s a mature well-developed, well-run business. Our OEM business is different there again. We’re actually working directly with OEMs supplying the components for CNG and LNG – LPG systems.

And so again a mature business, a growing business, tremendous amount of potential to grow in that business.

But then within that, that third piece comes along with our HPDI business, which is really a startup embedded in a mature company, right? And so the long history of Westport, Westport Innovations before the merger with Fuel Systems has this startup portion of our DNA.

And I think that’s really important and exciting for us and it’s a – we look expecting growth curves that are very, very exciting that investors should be very interested in. And so we’re just at the beginning of that and hence exciting time, pivotal time for the company..

Understood.

Just one last one from me on Weichai, are you expecting to receive some development-related payments, has that come through already and are you sort of in the next steps of moving forward with shipments et cetera?.

Yes, and we’ve received some of those payments already, they’re funding as we continue on the development of the program..

Alright, thank you..

So, I think this is a typical thing that basically before you get to production, we being the leader in HPDI in the world, a partner with our customers before they go to production to support them in prototype validation, development, calibration, integration, all the things you have to do to go from wanting it to having in production.

And increasingly as is the case with Weichai, our customers pay us for that kind of support, and so that’s really an exciting also portion for us of our business model that we have these paying development partners..

Thank you. I’ll get back in queue..

Thanks, Amit..

[Operator Instructions] Our next question is from Jeff Osborne with Cowen and Company. Please go ahead..

Hey, good afternoon guys, I had a couple on my end. Lot of people have asked about the guidance and certainly it’s a bit lower than I think many of the analysts including myself were expecting.

Can you just go through which of your end-markets are in structural decline or declining? This year you talked about weakness for example in Pass Car [ph] in Argentina, Russia and Turkey on a year-over-year basis for ‘18 and for ‘17.

But how should we think about – we certainly are focused on the growing markets, but just trying to get a sense of as you look at your broad exposure in transportation more broadly, which markets are declining?.

Yes. It’s a good question, good to talk to you, Jeff. Thanks for joining.

We – when we look at our aftermarket business with 70 markets around the world and 100 distributors in CNG and LPG products, frankly, I think we can always see a few markets that have gone up and a few markets that are going down, but these aren’t massive movements in most cases, unless it’s like a big problem in a local country like Venezuela goes to zero or something like that.

So, I don’t have a list for you today that says, gosh, these markets are in trouble. We don’t have any markers on the rise that we see in that way.

We see our modifications where it’s not as strong as we thought it would be or it’s a little bit weaker than we – so it’s a little bit off our forecast and in some cases markets like Argentina can be important to us.

And so if they – because they are a big part of our mix and so if they fall apart in some way that we need to note – we note it for you. But as of today, we don’t have any such notes to bring you in terms of the material weakness in any of our markets with respect to our aftermarket business.

The OEM business as you can imagine is quite different, because we sell to an OEM who then sells to markets around the world, so we get – they deal with the mix of the different regions that matter. And so maybe that’s responsive to your question, I hope..

Got it. No, that’s helpful. And then how should we think about CWI in 2019. I know it’s not part of the revenue guidance, but just you had a big year I would assume for some legacy replacements for bus fleets, LA, San Diego et cetera.

With the near-zero product cycle, is there still a reasonable backlog for ‘19 for near-zero vintage 2013, 2014 replacements or is CWI most likely flat to down in ‘19?.

I think we have a fairly good view of that and I’ve got Jim Arthurs here, my Executive Vice President, who can comment more in detail, he sits in the Board of CWI.

Jim, do you want to give some color on what we expect in 2019?.

Yes, thanks, David. Hi, Jeff. Yes, CWI is looking to grow this year. The near-zero product has been well received and we are seeing both new buses as well as re-powers to direct you to one thing, there is California HVIP program, the Voucher program has got $79 million this year sort of earmarked for near-zero engine replacement.

So, we are seeing tick-up in California. And it’s broadening as well to other markets that look at near-zero as a very favorable thing. So, definitely growth for CWI this year..

Perfect.

And then I know you can’t give details about your launch partner and what around quantities, but is there any discussion you could provide investors around regionally within Europe, where you are seeing the demand strength without quantifying the units? Is there any particular like what are the top three countries or any additional detail you could provide would certainly be helpful?.

Yes. Just off the top of my head we have seen a couple of public reports of fleets buying 20 units or 50 units or maybe actually placing orders for 20 units or 50 units at a time. And so this is really material and I think one of those fleets was in Belgium and another one was somewhere in Scandinavia and maybe there is a fleet in Germany we saw.

And I am trying to remember that the key countries there, but basically we do see this activity and it is very encouraging and like you said, we can’t report on what our customers orders look like to us and those volume so forth, but I did sit with them this year in my travels already and they are very upbeat about the program and the prospects.

And so I am encouraged and that’s in our forecast. It’s in our plans and we are looking forward to the year as a result..

Got it. I just have two more if I could, because I think I am the last one.

Can you just talk about what the cadence of revenue is through the year, I assume a back end loaded year, you highlighted Weichai in the third and the fourth quarter, obviously, Volvo I assume, or your European partner will ramp through the year, but is there any rule of thumb that two-thirds of revenue at the midpoint would be in the back half versus the first half or any seasonality that we should think about?.

I do think we have seen a little bit of seasonality where second quarter tends to be higher, but I don’t know if it’s – I haven’t had enough time here to tell you that it’s definitely going to repeat. So, I wouldn’t be in the park of saying that.

Certainly, you get summer vacations, you get good holiday shutdowns, you get things actually affected due to implied seasonality.

Jim, any further?.

Yes, I would agree. Q2 is seasonally strong for us with some of the European shutdowns that they have in August. So Q2 is seasonally strong. And India, as you say the back half or Q4 should be strong if Weichai launches on time as we are predicting..

Got it. And then the last one I had is and I think you’ve gone through this before, I just forget. But can you remind us of the accounting treatment of those Weichai payments is that show up as pure profit revenue? Is it an offset to OpEx? I forget the details on that..

Yes, it’s actually – we are just taking the cash and we are not recording any revenue or offset to R&D for those payments..

Got it. Thank you. Appreciate it..

Thank you..

This concludes the question-and-answer session. I would like to turn the conference back over to Shawn Severson for any closing remarks..

Great. Thank you everyone for joining us today and thanks again for your interest in Westport Fuel Systems. We look forward to talking to you next quarter..

This concludes today’s conference call. You may disconnect your lines. Thank you for participating and have a pleasant day..