Edited Transcript of WKHS earnings conference call or presentation 8-Nov-19 3:00pm GMT

In summary, total operating expenses in Q3 2019 decreased 13% to $4.2 million from $4.8 million in the same period last year. The decrease in total operating expenses was due to the lower SG&A spending previously mentioned and was offset by the higher R&D spend also just mentioned. Net loss in the third quarter was $11.5 million compared with a net loss of $5.5 million in the third quarter of 2018. The greater net loss was due to higher interest expense in the third quarter of 2019 compared to the third quarter of 2018. Interest expense in the current year period included a $4 million mark-to-market adjustment compared to interest income from a $1.5 million mark-to-market adjustment in 2018 for warrants issued to lenders.

For clarification, the cash interest expense in the quarter was $900,000. On our previous call, we discussed the negative impact of the mark-to-market warrant liability on our net income. More specifically, we experienced an increase in the fair value of the company’s warrant liability, which was driven by the increase in the company’s stock price during the second quarter of 2019. During the fourth quarter of this year, the company identified an accounting correction impacting those results from the second quarter. The correction is primarily related to those warrants issued in July of 2018. The result is a reduction in interest expense and warrant liability. Last Friday, the company issued an amended 10-Q for the second quarter reflecting the correction. The impact on the company’s second quarter financial statements was to reduce interest expense by approximately $16.9 million and to reduce the warrant liability by the same amount for the previously recorded mark-to-market adjustments.

During 2019, Workhorse has been working to remedy a self-identified material weakness. We have conducted and substantially completed a review of our internal controls, and we are now in the process of implementing enhancements to those internal controls to address any gaps identified during the design review. We believe the aforementioned enhancements will strengthen our internal control over financial reporting and should remediate the material weaknesses identified.

With that overview completed, I’ll now turn the call over to Workhorse’s CEO, Duane Hughes, to discuss some of our major operational updates and provide an outlook for our business for the remainder of 2019.

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Duane Hughes, Workhorse Group Inc. – CEO & Director [4]

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Thank you, Paul. Well done. And welcome to everyone joining us this morning. We appreciate this opportunity to update you on our business since we last spoke in August. In that period of roughly 3 months, we’ve concentrated nearly all of our engineering staff and effort on bringing our next-generation vehicle through the final stages of early production. We also focused on additional near-term opportunities that will have financial benefits for the company.

I’ll begin with our agreement with Lordstown Motors. Yesterday, we announced that we had signed an intellectual property licensing agreement with Lordstown Motors Corp., which concurrently acquired the Lordstown Assembly Complex from General Motors. This transaction has tremendous value to Workhorse. It represents non-dilutive equity and potential revenue streams through licensing, royalties and engineering services from Lordstown Motors Corp. The assembly complex includes a 6.2 million square foot manufacturing facility on 740 acres with more than 1,200 robots and an experienced workforce that has been producing automobiles for generations.

Under the terms of the agreement, Workhorse is granting LMC an intellectual property license related to our electric pickup truck platform in exchange for a 10% non-dilutive equity stake in the company. Workhorse is also entitled to a license fee equal to 1% of the gross sales on the first 200,000 units sold. Additionally, the agreement calls for LMC to prepay a portion of the royalty and an amount equal to 1% of their capital raise.

As you may recall, Workhorse has Letters of Intent for nearly 6,000 of our W-15 electric pickup trucks. This represents revenue of approximately $300 million. We will receive a 4% commission on each Letter of Intent we convert to LMC. Workhorse will further benefit by monetizing our existing technology through licensing agreements that would otherwise require us to raise hundreds of millions of dollars to bring the W-15 to market, and doing this would significantly dilute our shareholders.

Having an affiliated company with this level of automotive production capacity affords Workhorse a footprint unrivaled in commercial electric truck manufacturing.

I’m going to move on to our Duke partnership at this point. As you know, I spent a great deal of time on our last call highlighting our alliance with Duke. We do believe this alliance with the largest or one of the largest utilities in the United States is a first of its kind industry-leading partnership, whereby the combined resources of both companies will provide an end-to-end turnkey solution. These solutions include depot-wide infrastructure build-out; building automation; energy management; battery financing and leasing; and, of course, Workhorse electric vehicles. The Duke Alliance, along with the battery leasing options, will help us overcome one of the biggest objections to fleets buying Workhorse electric vehicles at scale. Ultimately, our alliance with Duke Energy allows Workhorse the ability to deliver the best-performing and most affordable electric truck to benefit all our customers and stakeholders.

At this point, I’m going to pass the call to Rob to discuss updates on our next-generation vehicle process.

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Robert Harry Willison, Workhorse Group Inc. – COO [5]

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Thank you, Duane. I want to talk about some significant advances with respect to our C Series project externally known and previously referred to as the next-generation, or N-GEN. As we conclude the engineering testing and certification process, we will begin fulfilling our backlog of orders with 1,000 cubic foot and 600 cubic foot versions now known as the C1000 and C650.

During preproduction, we build-out a series of mules for testing and certification validation. On November 5, we held an information and demonstration session with our partner, Ryder System, and other key fleet executives. During the sessions, we had ride-and-drive demonstrations for both the C1000, and C650 platforms. The feedback was unanimously positive. Customers appreciated the new design approach, including available safety features and overall size and utility of the vehicles. They commented on the unique benefits, including low floor access, structural composite design, driver sightlines and other advanced technologies. We look forward to processing orders from Ryder in the near future for these vehicles. The design and configuration of the C Series platform expands the range of customers Workhorse can attract beyond the all-important package delivery companies.

In total, the C Series of products will include a family of 250, 450, 650, 1000 and 1200 cubic foot models. It will also include a refrigerated cold cube package and 2 flatbed variants.

I’ll turn this back to Duane, who can complete the update on this quarter.

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Duane Hughes, Workhorse Group Inc. – CEO & Director [6]

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Thanks, Rob. That was a good update. I’m going to talk about Surefly at this point. At the beginning of October, we filed an 8-K with the SEC announcing 2 exciting developments with our Aerospace division. First, we entered into an asset purchase agreement with Moog for the sale of Surefly. Moog is a $3 billion New York Stock Exchange-listed aerospace and defense company. Under the terms of the agreement, Moog intends to acquire the assets of Surefly for a cash purchase price of $4 million plus an all-important joint venture with Workhorse for HorseFly last mile drone delivery systems. Under the terms of the agreement, Workhorse and Moog will each own 50% of the joint venture. Workhorse will contribute the HorseFly assets and Moog will contribute complementary assets, intellectual property and technology. The purpose of the JV is centered around the sharing and advancement of technology and IP related to the development of unmanned aerial systems. We feel strongly that partnering with Moog and their pedigree in aerospace will accelerate our path to revenue with the HorseFly solution across multiple verticals.

Now I’ll talk a bit in more detail about the HorseFly delivery drone system. We recently announced that we have partnered with Unmanned Systems Operations Group, or USOG. They are a provider of end-to-end unmanned mobile medical delivery logistics. Together, we are part — participating, I’m sorry, in a pilot drone delivery program. The program takes place in the San Diego area with a goal of pursuing delivery programs for health care providers, pharmacies and specialized medical career services. The HorseFly system conforms to the FAA’s standards for UAV operation in the United States. Additionally, USOG has patent-pending package configurations that enable HorseFly to make several deliveries on a single flight rather than 1 delivery of 1 package at a time. USOG’s vision is to enable nationwide medical deliveries by UAV. We look forward to continuing our work with USOG, the FAA and other stakeholders on safe, secure and timely deliveries.

My last point will be about the United States Postal Service. With respect to the next-generation delivery vehicle program, Workhorse can only provide information which is already in the public domain. Therefore, we cannot answer any questions or entertain discussions related to the program. This position is not new. With that said, however, public knowledge that Workhorse participated in and fully completed the United States Postal Service NGDV prototype development and testing phase in early March of 2019 as has been the case throughout this process, any further information or announcements will be issued by the U.S. Postal Service. We look forward to updating you on our progress in all of these areas going forward.

We’re now ready to open up the call for your questions. Operator, please provide the appropriate instructions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Jeff Osborne with Cowen and Company.

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Jeffrey David Osborne, Cowen and Company, LLC, Research Division – MD & Senior Research Analyst [2]

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Nice to hear on the progress with everything moving forward. A couple of questions on my end. I was wondering with the C Series. Can you just talk about what the backlog is? I think in the past, you had talked about a little bit over 1,000 trucks with UPS and other partners.

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Duane Hughes, Workhorse Group Inc. – CEO & Director [3]

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Yes, great question, and thanks, Jeff, for being online and asking. As you know — as we stated in the past, our backlog is a little over 1100 units, represents about $70 million. But the most exciting part, I would tell you, is that after our first day of the ride-and-drive at TRC this past week, we’ve actually picked up yet another order. I’m not prepared to be able to name that company just yet, nor the number of units, but we are able to report that after the ride-and-drive, we have picked up a new order. So we expect to see many more orders coming from that. Clearly, working with our partners like Ryder and what we’re doing with Duke. So we’re really eager and excited that we’ve demonstrated that first product and it’s getting the acceptance that it’s getting.

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Jeffrey David Osborne, Cowen and Company, LLC, Research Division – MD & Senior Research Analyst [4]

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That’s good to hear. On the C Series, you mentioned the mules and the testing and the ride-and-drive. Have you received all certifications that you need? Or can you just give us an update on what the pending checklist items are to move forward with this production start?

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Robert Harry Willison, Workhorse Group Inc. – COO [5]

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Sure. This is Rob Willison. We — most of the testing is being done at TRC. The sequence of some of those tests will stretch out for the next few weeks, but we’re progressing through our list. At this point, we don’t see anything that’s — would require any redesign. It all is going very well.

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Jeffrey David Osborne, Cowen and Company, LLC, Research Division – MD & Senior Research Analyst [6]

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So do you think — I guess, my follow-up would be then, do you anticipate producing a reasonable in the tens of units in Q1? Or it sounds like in the response to that question, that Q4 doesn’t have much production at all. But how do we think about the start of next year and the pacing against delivery of that backlog?

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Robert Harry Willison, Workhorse Group Inc. – COO [7]

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Yes, certainly, we will begin production this year and are ramping up. As any vehicle, we’re looking at how rapidly we can produce those, and we will fulfill that backlog as quickly as we can.

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Duane Hughes, Workhorse Group Inc. – CEO & Director [8]

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We are designed, Jeff, that — as we design the vehicle and the production process in our Union City plant, we plan to get through the entire backlog into 2020 with additional vehicles behind that as well.

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Jeffrey David Osborne, Cowen and Company, LLC, Research Division – MD & Senior Research Analyst [9]

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Okay. It’s good to hear. A couple of other quick ones. There was one item in the 10-Q that I don’t believe you mentioned on the call. But the VT Hackney transaction on October 31, can you talk about what that was, what you’re getting for $7 million?

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Duane Hughes, Workhorse Group Inc. – CEO & Director [10]

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At this point, I can’t give you that. I can tell you, I can repeat what’s in the 8-K and so on. There are a couple of milestones with that transaction. I’m not prepared at this point to talk about what the assets are. But it’s safe to say that the initial $1 million payment happens at a point when one set of criteria takes place. And then, of course, in the future with another set of criteria, should things go the way they are planned, then the additional $6 million payment or they could draw down the stock that’s in there as a backstop.

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Jeffrey David Osborne, Cowen and Company, LLC, Research Division – MD & Senior Research Analyst [11]

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And just so I’m clear, Duane, is this tied to the C Series progress? Or is it some other program?

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Duane Hughes, Workhorse Group Inc. – CEO & Director [12]

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It’s not tied to the C Series.

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Jeffrey David Osborne, Cowen and Company, LLC, Research Division – MD & Senior Research Analyst [13]

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Okay. And then last 2 ones here. Is — can you just — you’ve highlighted the Duke momentum for the past 6 months. And obviously, you need trucks to sell to use that partnership. But can you talk about what has transpired over the past 6 months? Are there physical locations from UPS and/or other partners that have been identified? Essentially, what I’m asking, is there a pipeline that’s ready to go as the vehicles are produced? Or is this still something that will be more gradual in its evolution in 2020?

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Duane Hughes, Workhorse Group Inc. – CEO & Director [14]

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No, I think they have already identified specific locations. I won’t say which customers at this point. I’ll let them speak to that later. But yes, they’ve identified locations. We actually have the battery leasing projection models and are updating our staff as well as other sales mechanisms in order to begin putting that battery leasing program into place.

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Robert Harry Willison, Workhorse Group Inc. – COO [15]

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We have pricing on the battery lease and the terms and things. So it’s fairly well along.

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Jeffrey David Osborne, Cowen and Company, LLC, Research Division – MD & Senior Research Analyst [16]

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That’s great to hear. My last question is just as we start-up production late this year and through the growth of 2020 and delivering against the backlog, how do we think about what the OpEx needs of the organization are, especially in light of the JV that’s been formed for some of your other initiatives and the lack of clarity on the Postal Service? Is the current run rate sustainable? Or do you think it’s up 20%, 30% from these levels? Any sort of high level broad strokes about capital budgeting for OpEx in particular for next year would be very helpful.

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Paul Gaitan;Chief Financial Officer, [17]

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Sure. I’ll take part of that question. This is Paul Gaitan, CFO. OpEx is going to be relatively flat. We’ll certainly have some R&D to finalize things for the last details on production. But in terms of SG&A, no, that would continue to be flat. And then as far as CapEx, that should be relatively modest for us as we work through more of a manual build process as opposed to relying heavily on automation at the initial low volumes.

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Robert Harry Willison, Workhorse Group Inc. – COO [18]

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This is Rob Willison. I just wanted to throw in. Because this is an all composite vehicle, there’s no welding, there’s — the traditional labor-intensive manufacturing process is greatly streamlined. It’s a very simplistic, bolt-on component type manufacturing. So from a capital-intensive CapEx structure, we’re in pretty good shape.

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Operator [19]

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(Operator Instructions)

Our next question comes from Paul Largo with Wells Fargo.

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Paul Largo;Wells Fargo;Senior Vice President, [20]

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You had a lot of progress in a number of different fronts over the past few months and it’s great to hear about that. Looking at the press release regarding VT Hackney. Can you expand on the relationship that you have had beyond the original pilot vehicles for the postal contract? Were — are there any current or were there any more partnerships that you engage in with them?

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Duane Hughes, Workhorse Group Inc. – CEO & Director [21]

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Not partnerships per se as would be with the Postal Service, as you point out. But, of course, as a supplier of — or I should say, as a manufacturer of custom body components and so on, there is relationships that we have in terms of supplier-to-vendor relationships, if you will, but nothing similar to how you’re referencing it with the post office.

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Paul Largo;Wells Fargo;Senior Vice President, [22]

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Okay, great. And a follow-up question. Regarding electrification of hubs on a larger scale, to what extent do you feel that has or has not been an obstacle in obtaining larger orders from fleet customers who maybe feel they’re not equipped to charge vehicles on a large capacity in short periods of time?

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Duane Hughes, Workhorse Group Inc. – CEO & Director [23]

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Yes, that’s a really good question, Paul, and I appreciate it. Again, I made a comment or a reference to the fact that really the depot-wide electrification program we’re doing with Duke is really designed to overcome that obstacle. Because clearly, to your point, is if you acquire electric trucks and you can’t charge them at night then you can’t use them the next day because you have to go out with a full boat of juice there, if you will, in order to get through your route. You can’t pull over and charge and then start all over again. So the Duke Alliance as well as working with other partners, if you will, but the Duke Alliance is designed to do depot-wide electrification. So as we take on large scale orders, it will be combined through the Duke battery leasing program, and then the Duke team would be out in force at those depots providing the electrification — I’m sorry, the charging infrastructure that is necessary throughout. That could — that also can include things such as solar panels on the roof of the depot. So rather than, say, charging or paying, call it $0.08 to $0.12 a kilowatt hour, they’re able to bring those costs down because of the solar side down to $0.03 to $0.04 a kilowatt hour.

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Paul Largo;Wells Fargo;Senior Vice President, [24]

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Great. And last question is sort of a follow-up, I think, maybe for Rob, on the rollout of vehicles from Union City. In the past, we would get a little bit more in terms of number of projections per month per quarter. And I know, Duane, you mentioned full completion of at least the pending orders in 2020. Can you maybe give a little more color on what we can expect in a ramp-up Q1 versus Q2 next year?

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Robert Harry Willison, Workhorse Group Inc. – COO [25]

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Well, I can’t really give projections per se, but we will say we’re working aggressively with our partners. And because it’s a backlog, we will ramp up as quickly as the slowest part is available.

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Duane Hughes, Workhorse Group Inc. – CEO & Director [26]

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Yes, I would add further, Paul, and this is Duane, again, is that as we’ve modeled it out and put it into the number — into the spreadsheets and so on to identify what capacities are, we recognize that somewhere in that 14 units a day range, we would then start looking at adding further automation to the facility to help us reduce the amount of manual labor that we would be involved at that point. But we believe that we can get to 14 to maybe as many as 20 units a day rather quickly I’ll say, in order to not only fulfill the backlog but get us to a point where the scalable growth we’re talking about is easily achieved.

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Operator [27]

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(Operator Instructions)

Thank you. At this time, this concludes the company’s question-and-answer session. If your question was not taken, you may contact Workhorse’s Investor Relations team at WKHS@gatewayir.com. I’d now like to turn the conference call back to Mr. Hughes for his closing remarks.

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Duane Hughes, Workhorse Group Inc. – CEO & Director [28]

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Thank you, again, for joining us on the call today. We really appreciate the opportunity to give you the update and respond to the questions that came through. I especially want to thank our employees, our partners and our investors for their continued support. We much appreciate your continued interest in Workhorse and look forward to updating you on our next call. Operator?

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Operator [29]

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