On June 28, Clean Energy Systems (CLNE) announced a transaction with Westport Innovations (WPRT) involving the sale of its BAF Technologies subsidiary. CLNE has been deploying the distribution infrastructure of natural gas based vehicle transportation in the form of both liquefied natural gas (LNG) and compressed natural gas (CNG) filling stations and storage facilities. WPRT is engaged in the manufacture and design of natural gas fueled vehicle engines. The transition to natural gas vehicles is attractive because of the enormous price difference between petroleum based and natural gas based vehicle fuels. Natural gas is so much cheaper that a substantial investment in conversion is justified by the huge price differential. For a variety of reasons, the June 28 deal is beneficial to both companies. While not a huge "game changer," it provides clear and incremental benefits, which should enable each of the companies to pursue its strategy more effectively.
The Deal. The deal is relatively simple: 1. CLNE will transfer its BAF subsidiary (which is engaged in converting engines to run on natural gas) to WPRT; 2. WPRT will provide CLNE with $25 million worth of WPRT stock; 3. WPRT will pay off certain BAF debts owing to CLNE (the terms and amounts of such debt are not disclosed in the relevant SEC filing); 4. WPRT and CLNE will enter into a joint marketing agreement under which CLNE will receive $5 million by March 2014 for co-marketing efforts and WPRT will receive 750,000 gasoline gallons equivalent of compressed natural gas (CNG) (the cost to CLNE should be considerably less than $5 million) for use in marketing efforts; and 5. CLNE will agree to use WPRT for at least 50% of its natural gas powered vehicle needs.
WPRT's Perspective - From WPRT's perspective, the deal enables it to acquire assets which are strategically helpful in its primary business of natural gas engine design, production and conversion. BAF is in this business and has a valuable position in the industry which should strengthen WPRT's market position. BAF has a particularly strong relationship with Ford Motor (F) and this will allow WPRT to deepen and expand that relationship. In a sense, WPRT is removing a competitor or, at least, a potential competitor. It is achieving this result without any sizable cash outlay. Secondly, it is advancing its marketing efforts through a joint agreement with CLNE, which will enable WPRT to provide potential customers with assurances of access to supplies through CLNE's distribution system.
CLNE's Perspective - CLNE obtains additional financial strength through the acquisition of WPRT stock, as well as the payment of BAF's debts to CLNE and the $5 million marketing payment. It is unclear whether there will be a "lock up" period for the stock but, at some point, CLNE will be able to raise cash by either selling the stock or using it as collateral for borrowing. CLNE is still at the stage where cash needs are extensive so that this advantage is important. In addition, the sale of BAF helps CLNE sharpen its corporate focus on the development of a natural gas distribution and infrastructure system as opposed to the deployment of natural gas powered vehicles. Finally, the planned joint efforts with WPRT should enable both companies to accelerate the deployment of natural gas vehicles to their mutual advantage.
Where Do We Go From Here? - Both of these companies are at a stage in which the deployment of natural gas vehicle technology requires considerable capital. The next few quarters are likely to be critically important in determining whether one or both of these companies can handle the capital needs they face without dilutive equity offerings. I have written about CLNE in an earlier article and the key metric to follow is the deployment of LNG trucks; if it picks up fast enough, CLNE should be on its way to solid growth; if it fails to do so, there may be some trouble ahead. WPRT faces similar challenges although it will probably experience revenue growth earlier because its revenue growth will occur as engines are built, while CLNE will have to wait until LNG consumption increases after the engines are deployed.
I have reached the conclusion that the economics of natural gas vehicle deployment are sufficiently compelling that CLNE promises potentially attractive rewards for investors; I will be doing a piece on WPRT soon and, although I am not as familiar with its financial details, it is also in a position to reap major benefits from the transition to natural gas vehicles. Recent developments - the President's Climate Change Program (natural gas combustion emits less carbon dioxide than petroleum fuel combustion) and unrest in the Middle East (petroleum prices can skyrocket in a short time due to geopolitical developments) - should reinforce the trend toward natural gas vehicle deployment. The fact that the United States is experiencing a boom in petroleum production should not make much of a difference. Oil prices in the United States will continue to be based on World oil prices unless we have a repeat of the disastrous effort in the 1970s to subsidize the domestic consumption of oil. The latest round of Middle East troubles should remind owners of truck fleets that prices can shoot up rapidly and should induce additional interest in natural gas vehicles.
This transaction is certainly not a major "game changer" but a long journey generally consists of many small steps in the right direction. This deal is certainly one of those steps.