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Executives

Guy McAree – Director, IR

John Sheridan – President and CEO

Anthony Guglielmin – VP and CFO

Analysts

William Bremer – Maxim Group

Robert Brown – Lake Street Capital Markets, LLC

Robert Stone – Cowen and Company

Dev Bhangui – Byron Capital Markets

Les Sulewski – Sidoti & Company, LLC

Jeffrey Osborne – Stifel, Nicolaus & Co., Inc.

Ballard Power Systems Inc. (BLDP) Q4 2013 Earnings Conference Call February 26, 2014 11:00 AM ET

Operator

Welcome to Ballard Power Systems 2013 Results and 2014 Outlook Conference Call and Webcast. As a reminder all participants are in a listen-only mode and the conference is being recorded. After the presentation there will an opportunity to ask questions. (Operator Instructions). At this time I would like to turn the conference over to Guy McAree, Director of Investor Relations. Please go ahead, Mr. McAree.

Guy McAree

Thanks very much. Good morning, everyone. Today’s call is to discuss Ballard’s Q4 and full year operating results along with our outlook for 2014. And with us today are John Sheridan, our President and CEO; and Tony Guglielmin, our Chief Financial Officer.

We’re going to be making forward-looking statements that are based on management’s current expectations, beliefs and assumptions concerning future events. Actual results could be materially different. Please refer to our most recent Annual Information Form and other public filings for our complete disclaimer and related information.

So now over to John.

John Sheridan

Thanks, Guy. Good morning, everyone. As you saw on our press release last night our Q4 results continued the strong improvement trend we delivered throughout 2013. So Q4 capped off a great year for Ballard for the full year 40% revenue growth, 10 point improvement in gross margins, 7% reduction in cash operating cost, a 63% improvement in adjusted EBITDA with a marginally positive adjusted EBITDA, Q4. And we ended the year with cash reserves of $30.3 million.

So our strategy is working. We got execution momentum and we’ve solidified our balance sheet, so a very good year for Ballard. And as you saw in our press release with a strong positioning now and having been CEO of Ballard for eight years I have informed our Board that 2014 is the right time for CEO transition of Ballard. So I’ll retire as CEO by year-end. The year-end retirement plan gives the Board an idea of timeline for a comprehensive search process, and a smooth transition.

So I’d like to just to reflect a little bit on the past eight years, but I promise only for a minute here. We really have delivered a transformation of Ballard. From a fuel cell car research and development organization that was burning around $80 million a year to become a customer focused market leader. We’re providing clean energy fuel cell products and services on a global basis and that took a lot of heavy lifting over the last number of years.

We negotiated an exit from the automotive alliance with Ford and Daimler. We divested, we sold non-core businesses in the U.S. and in Japan, we restructured the cost base, we developed new products, we acquired strategic assets including Dantherm Power and IdaTech and we’ve secured new strategic new partners, including Volkswagen and Anglo American Platinum.

So looking back I feel very proud of our Ballard team and the impressive progress that’s been made but to be clear our work is far from done. So while it will be – so while the Board’s search committee leads the CEO search process in the coming months it will be business as usual for the management team; business as usual with an obsession on execution – execution in the short-term and on our strengthening our growth ramp for the medium-term. And in that regard we continue to be bullish on our growth outlook both for 2014 and beyond.

So that’s where I am going to focus my comments today on our growth outlook. But before I go there Tony will first address our 2013 results in depth Q4 and the full year. Tony?

Anthony Guglielmin

Thanks, John and good morning everyone. Results for Q4 and the full year are consistent with our 2013 guidance as-well-as with our overarching goals for the year which were to build a solid revenue growth ramp, improve our gross margins, further optimize our cash operating costs and strengthen our liquidity position.

So let me start then with the revenue growth. Our growth in Q4 was a modest 5% compared to Q4 and the prior year. But in these early stage markets as expected we do continue to experience some lumpiness in revenue from quarter-to-quarter. And as a result any single quarter revenue figure is not always the best parameter of growth. And to that point full year 2013 revenue was up significantly by 40% to $61.3 million consistent with our guidance for growth in excess of 30%. So a very strong year of growth for Ballard.

This success was due to the continued execution of our growth strategy through this early stage of fuel cell commercialization specifically our three level focus on product sales, engineering services and IT licensing. So I’ll provide a brief breakdown of our Q4 and 2013 results in each of these business areas.

So first on product sales I’ll begin with Telecom Backup Power. While backup power revenue in Q4 grew modestly up 2% over last year we delivered a very strong increase of 74% growth for the full year to $20.5 million. Full year revenue for the year was driven by the shipment of 796 ElectraGen systems, doubling over 2012. Most of these systems were shipped to Japan, China, Southeast Asia, South Africa and the Caribbean fulfilling both repeat orders from existing customers as-well-as orders from new channel partners and service providers. And it’s worth noting the majority of these shipments, about 80% were methanol fuel products.

And turning to Material Handling product sales, Q4 showed signs of increasing momentum after a slow start to the year with revenue growth of 32% in the quarter driven by increased stack shipments of some 38% for the quarter which was consistent with Plug Power having more recently secured equity financing followed by significant growth in their order book. And as a reminder our partner Plug Power has the dominant position in fuel cell material handling systems in North America.

Turning from product sales to Engineering Services; for the full year 2013 revenue increased by 24% to $21.1 million, the majority of which stemmed from the four-year Volkswagen contract signed in March.

Finally in IT licensing, we announced our first licensing contract last September a multiyear agreement for bus module assembly in China. And we recorded $2.3 million in licensing revenue from that deal in Q4 following $2 million recorded in Q3. And that leaves us with approximately $5 million in licensing revenue to be recognized in 2014.

Further as we outlined on our Q3 call if our partners bus program in China progresses as planned it will also drive future fuel cell stack sales and future royalty payments. And a reminder that we do report revenue from this licensing contract as part of our bus segment within the development stage markets.

Now looking at our other financial results for the quarter and the year, starting with gross margin, gross margin improved 12 points in Q4 to 34% and 10 points for the full year to 27%. These improvements were driven primarily by a shift in product mix, specifically towards higher margin engineering services along with licensing revenue.

In terms of cash operating cost Q4 improved 12% to $6.5 million and for the full year improved 7% to $28.3 million. Adjusted EBITDA in the quarter improved to positive $200,000 benefiting by about $500,000 in the positive net impact of our prudent approach toward warranty provisions along with normal inventory adjustments.

And for the full year adjusted EBITDA improved 63% to negative $8.2 million consistent with our guidance for improvements in excess of 50%. Earnings per share also improved in Q4 by 89% or a loss of $0.02 per share and by 59% for the full year or a loss of $0.20 per share. Now this improvement in adjusted EBITDA and EPS was driven by attainment of the key goals for 2013 I referenced earlier and work repeating here, specifically solid revenue growth of 40%; 10 points improvement in gross margin and continued optimization of our cost base with cash OpEx reduced by 7%.

And finally in terms of liquidity we strengthened our liquidity position in 2013 with two equity financings, generating gross proceeds of $22.5 million. Now this together with a 38% improvement in cash used by operating activities to $17.4 million we ended 2013 with cash reserves of $30.3 million with zero balance on our bank operating line.

And we do expect further significant improvement in cash used by operating activities in 2014. So wrap up then on 2013 results our top line growth combined with the substantial improvement in gross margin and continued reduction in operating cost capped off an excellent year for Ballard.

Now with that I’ll turn the call back to John to talk about our outlook for growth.

John Sheridan

Thanks Tony. As I said earlier we continue to be bullish on our growth outlook. While it has taken longer than expected there is now growing momentum – there is growing evidence of increasing market momentum that technology has been successful in numerous trials, product cost have declined about 60% since 2009, more end users have made initial and follow-on commercial deployments in many different vertical market applications and geographical markets, global players are becoming more active in this space.

We see this market momentum continuing into 2014 with the three strongest growth drivers being telecom back up power system sales, material handling stack sales, and engineering services and I’ll run through those three quickly.

In terms of telecom backup power our 2014 focus will be primarily on increasing penetration in the following markets where we currently have a presence: in Japan, where we have a base of about 350 systems deployed; in Indonesia where we have a base of about 300 systems in operation; the Philippines, a new market for Ballard where we have recently installed 20 systems; in China; in India progressing beyond the early stage trial activity we talked about and in South Africa where we have a base of about 320 systems.

As far as new geographical markets our prime focus in 2014 is on Australia, Myanmar and the U.S. On the U.S. front developments have been progressing slowly as we talked about before in these calls but we anticipate that will change in 2014. Two major U.S. carriers are planning significant deployments this year to harden key network nodes in critical cell sites. In part the motivation is to preempt potential regulatory pressure that seems to be building in the wake of super-storm Sandy. So we think the U.S. is going to be a different situation in 2014.

Turning to stack, product sales for material handling we continue to work very closely with Plug Power our partner in material handling. Plug has provided specific guidance that you have seen for more than 300,000 GenDrive system shipments in 2014. That translates into about 50% growth in our material handling stack shipments, about 50%.

And two weeks ago Plug also announced a new multi-site customer contract which they identified last night as for being for Wal-Mart. So I assume you have seen that. It’s a game changing contract to add 1,730 GenDrive units at six new Wal-Mart sites that’s building on the three existing Wal-Mart sites. So congratulations to Andy and the Plug Power team. It really is a game changing order. So material handling, significant growth in 2014.

Then turning to Engineering Services, our third key growth driver for this year, we expect growth of around 30% and it will come in the following areas. In automotive, our critical work with Volkswagen is moving forward on track and we are also working on smaller more narrowly focused automotive developmental programs with two other global OEMs. With other customers we are designing and commissioning fuel cell testing infrastructure and we also have a contract program underway to develop a specialized micro-fuel cell application prototype product for a military application.

Just to give you a bit of color in terms of Engineering Services. So those are the three key growth areas for 2014. The three key drivers and as I said we are bullish on the 2014 growth outlook. However these are still early stage markets with all inherent uncertainties. So we continue to maintain a prudent stance when it comes to forward-looking guidance. As such and as you saw on our press release, our 2014 guidance for the top line is revenue growth of approximately 30%.

I would add as well that consistent with what you have seen in the past few years we see that 2014 revenue split roughly 40% in the first half and about 60% in the second half of the year. Now more broadly beyond 2014, we continue to strengthen our positioning for key three medium term growth catalyst; continuous power for station area upgrade applications in both residential and telecom markets. That’s related of course to our work with Anglo-American Platinum for the South African market.

Secondly in the medium term megawatt level distributed generation is still a key focus for Ballard. And then thirdly in the medium term is a key catalyst the whole area of zero emission transportation, both bus and car. So just pausing a little bit on zero emission transportation and on the car side, after the false promises of many years ago regarding fuel cell cars we are now seeing steady, albeit slow, but steady progress towards the ultimate long-term goal of commercial fuel cell vehicles.

And you’ve heard a lot in this space recently, just to touch on Hyundai has announced the production of its Tucson fuel cell car for the California market, will began this month. Toyota unveiled its new fuel cell vehicles at the Consumer Electronics Show a few weeks ago saying that the production version will be in the market in 2015 and Honda expects to launch a fuel cell car in the U.S. and Japan in 2015.

This ongoing development work, and make no mistake about it there is number of years still to come on development work, but this ongoing development work by the auto OEM presents business opportunities for Ballard, business opportunities in component sales, licensing and engineering services. And we see that progress towards commercialization and fuel cell cars broadly been paralleled by buses as product costs for fuel cell cars continue to be reduced.

And in the interim on the bus side we will continue to sell bus modules to support fuel cell bus demonstrations and on that front we are submitting a joint bid with Van Hool for EU funding of up to 25 buses and last month we announced a contract with Solaris a new bus OEM partner in Poland for two modules to be used as range extenders on Solaris battery powered buses. So an interesting new application.

So those are the key growth catalysts for the medium term. Transportation continuous power and DG but to emphasize we remain grounded on short-term execution. So again to repeat our 2014 guidance is for approximately 30% revenue growth driven largely by product sales and telecom backup power, material handling and engineering services.

And with that I’ll turn it back to Tony to quickly talk about the 2014 outlook for the bottom line.

Anthony Guglielmin

Thanks John. In terms of the outlook for the bottom line in ‘14, let me briefly address two key metrics, gross margin and cash OpEx. The gross margin for the full year 2013, as I mentioned, was 27% and for 2014 we do anticipate a modest improvement underpinned by two factors.

First, a product mix for 2014 similar to that that we saw in the second half of the last year with similar proportions from engineering services and licensing and continued product cost reduction efforts; notably, on our HT7 bus module, which will be launched later in 2014 and on our methanol fuel reformer.

On operating cost we also see opportunities for further reduction in our operating cost base. In 2013 we exited the year with a $6.5 million per quarter run rate. And for 2014 we expect to further reduce this run rate to the $5 million to $6 million per quarter range with the help of two key enablers. First, the movement of additional resources into engineering services contracts, effectively shifting labor cost from OpEx to COGS. Ad second, the current weakness in the Canadian dollar enables lower operating cost as the bulk of our operating cost are in Canadian dollars. And to give you a sense of the impact, each $0.01 decline in the value of the Canadian dollar lowers our operating costs by roughly $250,000.

So pulling together than our top line growth, along with progress on gross margin and CapEx and using the same prudent approach we have taken to guide through the top line, our 2014 guidance for the bottom line is approximately breakeven adjusted EBITDA.

And with that I’ll turn it back to the operator to take questions.

Question-and-Answer Session

Operator

Thank you. We will now begin the question-and-answer session. (Operator Instruction). First question today is from William Bremer from Maxim Group. Please go ahead.

William Bremer – Maxim Group

Good morning John, Tony, Guy well done.

John Sheridan

Thank you.

William Bremer – Maxim Group

Let’s go into telecom. With the amount of CapEx that we’re seen coming from China Mobile, you are talking incredible numbers, in the billions annually as well as building north of 200,000 base stations. Even Taiwan Mobile is building 8,000 to 10,000 base stations. Can you give us a sense of the opportunity that’s in front of you, just given that Asia-Pacific RIM?

John Sheridan

Interesting question William and an interesting way to start. But I guess number one, we agree with you there is a tremendous amount of money going in to CapEx in terms of network builds and network modernization and the new technology overlays. China’s a massive opportunity which is of course is why we’re focused on China.

But again just to be clear and to stay grounded with the opportunity we’ve got, we’re focusing very much of course where there is a strong value prop in terms of our technology being able to work with operators to harden nodes, harden cell sites for crisis situations, and then in areas where there is unreliable grids and the operator’s really need to supplement the grid itself. So I’m not gone get too specific in terms of the size of the opportunity. 2014, we see the potential to double shipments and obviously there is catalyst out there if there is some big new program. And again I don’t want to get specific at this stage there will be opportunities beyond that.

But again, we’re really focused on specific reagents with the value props in those two areas. And I mentioned our focus in terms of the existing markets, we’ve got where it’s very much working with operators, continuing to show support for the deployments out there and to get repeat orders. And then the excitement for us this year is can we break into the U.S. market in terms of network hardening. Myanmar is very interesting; Myanmar a country the size of France is going to quickly build out national telecom network. And those networks are going to be in areas about 60% in territories where the grid’s not reliable at all.

So it puts a real focus on power solutions. In Australia, Australia we haven’t talked about much but we’ve had early stage trails with Telstra and they’ve gone quite well and we see network hardening opportunities there. And obviously that’s a big market. So sorry for the wandering colloquy I think I’ll leave it at there.

William Bremer – Maxim Group

No you hit it on the head in terms of where I was going next the U.S. market in terms of what we – we’ve been devastated because of Sandy in certain regions here and of course the utilities, many of them have kept and are increasing some of their CapEx build and that should play nicely into some of those markets for yourself.

Moving to material handling can you give us a little more color on what type the fact that your partner there with Wal-Mart, give us a little more sense of how that really weighs to your material handling and exports you have there?

John Sheridan

Well maybe just to back up a bit, William for people that aren’t as close to it as you are, so we worked very, very closely with Plug for a number of years. Our fuel cell stacks ran all their GenDrive systems in the field. We no longer have an exclusivity relationship with Plug but we still of course work very closely with them and we see ourselves as a primary partner with Plug going forward.

So I don’t want to get ahead of Andy Marsh so in terms of some of these recent announcements but what I was trying to indicate earlier in my results that the formal guidance that’s been given if we continue the relationship we’ve got which we expect to, that would provide about 50% growth for us year-over-year.

The Wal-Mart announcement more recently is on top of that. So the Wal-Mart announcement 1,738 new GenDrive systems, six additional Wal-Mart sites that’s going to be over two years and I don’t want to go again into detail before Andy Marsh, who’s the right guy to give the detail talks about the timing there vis-à-vis the Wal-Mart plans. One of the things in terms of our growth that will be key is what mix of air-cooled and liquid-cooled stacks will be in that order. So quite a bit more to come on Wal-Mart, it’s just evolving in real time.

William Bremer – Maxim Group

All right, excellent and congratulations again on retirement.

John Sheridan

Thanks William.

Operator

The next question is from Rob Brown of Lake Street Capital Markets. Please go ahead.

Robert Brown – Lake Street Capital Markets, LLC

Hi good morning. Just like to hit the U.S. Telecom situation a little bit, what do you see new programs coming in – give us a sense sort of what the opportunity there is for you?

John Sheridan

Well Rob, again I can’t go too far because we don’t have much specificity we can give you at this stage. We are working with two major operators. One of those operators we talked about before is Sprint, has been publicly talking about key rooftop trials which we think is a big, big opportunity, the right opportunity.

As William talked about earlier, just more broadly it is tremendous to see finally people taking forward-looking steps not to just replace infrastructure that was destroyed by super storm Sandy but to improve that infrastructure make it robust and to make sure that in a future crisis there is extended backup power for these critical networks. So we’ve got Sprint moving in that direction, we’ve got another major telecom operator moving in that direction.

We expect to see that translating into orders in the first part of 2014 but until we got specificity there can’t really offer much more.

Robert Brown – Lake Street Capital Markets, LLC

Okay good. And you went through a number of the new programs and IP licensing that you are working on, just trying to get a little more sense on the automotive side, are you saying that, that sort of a number of that activity out there is potential IP licensing in engineering services for you or just give us a sense of what that opportunity might be for you and how it comes through your P&L?

John Sheridan

And again to be clear Rob I wouldn’t want to mislead anybody that we’re major advocates and proponents who have the view that there is going to be a commercialization of fuel cell cars in the short term, it’s just not on. And people missed that by 100 miles ten years ago, when they were talking about short term commercialization of fuel cell cars.

But what we do see is the technology is making steady progress over the longer term with the electrification of the fleet the replacement gradually of internal combustion engines, we think and more importantly the experts think the fuel cell car proposition is very strong, vis-à-vis battery cars and fuel cell technology is going to play a role in the electrification of the fleet.

Having said that, what’s you’re going to see, we think is several more years of the automotive OEMs doing key development work to lower cost, lobbying to get progress with the hydrogen fuel infrastructure which is going to take time. Over that time there will be more fuel cell car demonstration fleets on the road. So in that timeframe we see the real opportunity where we can provide value to some of these OEMs.

Now to your point more specifically how does that value get manifest for Ballard. In some cases we see it in terms of engineering service programs where we help development efforts directly we’re doing that in a large scale with Volkswagen, we’re also working with two other OEMs. As this space progresses with the IEP portfolio we’ve got we see licensing opportunities and again as the space evolves again during this development period we could be the provider of components. We feel very strongly in terms of the positioning of our MEA capability for example which as you know is the core element in fuel cell technology.

So to be determined as we’ve described it as the medium term growth catalyst and it would be in those three areas, engineering service, IEP licensing and potential component supply.

Robert Brown – Lake Street Capital Markets, LLC

Okay, great thank you. I’ll turn it over, congratulations on a good quarter.

John Sheridan

Thank you.

Operator

The next question is from Rob Stone of Cowen and Company. Please go head.

Robert Stone – Cowen and Company

Hi, guys. My first one is a follow up on that – read about fuel cell vehicle. Do you see the IP licensing opportunities and perhaps components as well as helping bring along automotive OEMs who themselves don’t have strong in-house programs or do you think you actually have something better on offer or some IP that might be have a bearing on the larger in-house programs? Thanks.

John Sheridan

Your question sounds simple. And I think – it is a bit of complicated area so to begin with the focus on IP patents et cetera in terms of capability it’s not just the IP in the formal patent sense, in many ways it’s more broadly the fundamental know-how associated with the IP and trade secrets associated with the know-how.

So when we think of the value that we can provide to automotive OEMs it relates to that whole broad area in terms of the patents the know-how, the trade secrets and the 150 engineers we’ve got at Ballard that have tremendous experience in that whole area. In fact right now Tony we’ve got about 80 of our people working on the Volkswagen program.

So these are big development efforts and that’s why we think there are significant growth opportunities for Ballard. Now IP more formally if this area starts to commercialize, which we think it gradually will IP takes a value in of itself in terms of options to trade questions about IP blocking, so that could be another manifestation of value downstream.

But right now it’s more broadly it’s IP fundamental know-how and trade secrets.

Robert Stone – Cowen and Company

Okay. My second question is on the product sales area and talk on backup and material handling systems. How do you think about expected price declines, you are going to be working on cost down yourself but as you continue to grow units what kind of pricing expectation signals you are getting from your customers?

Anthony Guglielmin

I’ll give John a break and I’ll try to talk about, it’s Tony here. On the backup power side, on the backup power system particularly and of course as you know we’ve got a range of 2 to 5 kilowatt hydrogen methanol, so the price range that we’re currently selling at is sort of 15 to 20 plus type of, 25 range. I would say right now that it’s the market, the price points is very much driven by different geographies, the markets we had most success in up till now have largely been in Indonesia, in growing markets where there is really a more substantial value proposition. As you start to get into the U.S. market more mature markets certainly price becomes I think a bigger driver.

In that regard we are on our side continuing as you mentioned and we mentioned focused on cost reduction. And I just mentioned a couple of specifics. I mentioned in my remarks about a cost reduced or the work we’re doing on a methanol reform we expect to have that available sort of midyear in the second half and there will be some modest cost reduction that we’ll see that we’ll be able to pass through.

And we’re working on a what we call our V3, our next generation of our backup power system and that’s more about a mid-2015. That one we think it could be a more substantial, allow us to implement more substantial price reduction. So as we move forward it’s something and we think the market, if we can get price points down 10% to 25%, I really think we get into the sweet spots in some of those markets where like the U.S. and so forth where we think we could really be game changing.

Although we are on that journey and I think we can get there on material handling, we’ve been on a constant journey to get our stack prices down. John mentioned we have an air-cooled and a liquid-cooled stack that we currently sell to Plug depending on the power requirements. We’ve been working on both – we continue to bring those down and I think Andy would – Plug would say the same thing. And we’ve made a significant progress collectively both on the stack side as well on the Gen drive side. But I think right now we are the point where the pay back is there to probably about a one to two year pay back commercial pay back even today on forklift.

So we think the price point is there – we are in that sweet spot right now but certainly we haven’t given up numbers – have to get price down further and we expect to see further price reduction over the next year or two.

Robert Stone – Cowen and Company

Thank you Tony a couple of more housekeeping questions for you on how should we think about CapEx for this year probably just some maintenance stuff I would guess. And then do you have targets in mind for working capital ratios for inventory returns and receivables looking forward?

Anthony Guglielmin

Yeah, a great question let me raise it up one level if I may. We talked, I mentioned our outlook of course is approximately break-even adjusted EBITDA. So may be just to raise it up what does that mean for cash, for total cash consumption for the year and although I’ll just say that we are probably in the $8 million to $10 million cash for in total cash for in this year. Last year we were more in the $17 million cash burns.

So when I say $8 million to $10 million, in that $8 million to $10 million would be somewhere would be working capital some increase in working capital, I don’t have any ratios I think come back to you on specific ratios as don’t have those in front. But figure probably use $3 million or $4 million working capital, our CapEx is in deep maintenance CapEx only. We’ve been in this $1.5 million range for the last couple of years for maintenance CapEx and then beyond that it’s just lease payments on our building. So it’s followed by three to five working capital may be 1.5 million CapEx in total about $8 million to $10 million burn.

Robert Stone – Cowen and Company

Great, thanks for taking my questions.

Operator

The next question is from Dev Bhangui of Byron Capital Markets. Please go ahead.

Dev Bhangui – Byron Capital Markets

Hi morning John, Tony and Guy, great quarter with positive surprises there on the bottom line and on the margins.

John Sheridan

Thank you Dev.

Dev Bhangui – Byron Capital Markets

So John I was just wondering and you gave a great summary of 2014 and ‘15 and beyond, one of the dominant positions in the telecom backup power you have is obviously with the methanol units right now having a significant footprint in the emerging markets and I am sure your competitors are getting itchy to kind of come and try to take a piece of that action from you. And Tony talked about some of the developments in second half 2014 in terms of price reduction on the methanol units and so on.

But overall if you can give us a view as to how you expect first of all to protect your existing position and then grow that position in emerging markets on the telecom backup power that through product cost reduction, broadening of the product lines, alliances, new partnerships whatever?

John Sheridan

Good question and you are helping me with the answer there Dev, those are the key elements and again may be just to backup little bit for as people not as close to. So we have two key product offerings in terms of telecom back of power direct gas is hydrogen and methanol and water offerings is we talked about earlier about 80% or our total shipments in 2013 were methanol fuel.

The telecom operators in many locations really strongly prefer methanol. They like the liquid fuel solution versus gaseous hydrogen. So obviously that was a good move for us into that space. What we’ve got to do Dave to your point to protect the leadership position what you’ve got is to continue to put development product investment into the reformer terms of the performance life of the reformer and getting the cost significantly lower.

So that’s one of the key development initiatives we got in 2014 and also the work we are doing with Anglo Platinum on continuous power bridges back in that area. Because again in continuous power it’s all about developing a long life sack and a lower cost reformer so that work we are doing with Anglo American Platinum is in just for South Africa. It’s not just for continues power. It’s really going to support our core telecom offering, lower cost, improved margins there. So that’s one of the key things we’ve got to do and we’re committed to do it.

Second area is in terms of improved functionality. I spent some 25 years in the telecoms area you are talking about networks that are highly sophisticated, very detailed monitoring diagnostic, surveillance capabilities that’s what telecom operators look for in their network nodes, that’s what they want to ideally see in this power solution part of the business.

We’ve got more units deployed, we’ve got more commercial experience, we’ve got more customer relationships. So we think that’s an advantage for us to keep developing increased functionality around the product itself. So again it’s support for the product, it’s leveraging the relationships we’ve got, it’s delivering better and more functionality and it’s lowering the cost in terms of both the stack and the reformer.

Anthony Guglielmin

And John maybe if I may just to follow on. So I think distribution was another thing that Dev you mentioned and certainly we would agree we are not – we are a relatively small company, so building good distribution channels, channel partners has been part of this strategy. Some of those we inherited when we acquired the IdaTech assets and so we’ve got key and strong distributors like Hutch and a few others.

And as you may recall last – just about this time last year and the relationships developed, relations with NSN that really enabled the Japanese market for us about this time last year and we are continuing to work with NSN in some other markets globally. And I think it would be safe to say that one of our objectives is to continue to build strong distribution channels and that is certainly a priority as well. Again we think we’ve got a – head a head start and leg up and we think that will also in line with what John mentioned will help drive success.

Dev Bhangui – Byron Capital Markets

Thanks John and Tony for that question, excellent. And then John just while you were talking earlier in your prepared remarks here with respect to the outlook and coming to the developed markets for the telecom backup power again. You are talking about Australia, Myanmar and the U.S., just overall on a range basis and you can do it over a period of two years, three years whatever because you talked about medium-term. Can you size up the opportunity, the addressable market opportunity for you specifically? I am not talking about the overall market, what slice of that market are you being able to target?

John Sheridan

Dev, I am not sure we can. I think that’s something we can talk about offline, I can restate to you the total addressable market and where we see ourselves playing. But as you get more focused on the size of those specific geographies I don’t think we have that level of specificity to share with today.

Dev Bhangui – Byron Capital Markets

Sure. Thanks. And then just in terms of overall business and I am looking at again the 2015 and beyond kind of horizon because 2014 I am pretty confident as well as to not just that you will do with respect to your outlook you will probably do better than that based on certain numbers. But just overall that you are looking at engineering services and I know that’s one of the dominant revenue layers or contributors to you guys at a higher margin level compared to others.

But when you are looking at revenue being broken down broadly in two streams, one is the product revenues, which I believe have got a growth potential and have got some kind of certainty. And then there is Engineering Services which I consider as non-product revenue wherein it’s a good lead and it’s a high margin business but you do dance from a new customer to a new customer as-soon-as the contract is over. So I call it and maybe I am wrong here in terms of characterization and maybe I consider that to be more uncertain part of the revenue.

How do you expect subsequently Ballard to evolve in the next few years in terms of do you want to increase the product revenue proportion or you are happy with whatever the portion is just because Engineering Services is high margin? And if the latter is the answer in the sense you are happy with engineering services being a significant portion then how do you ascertain or how do you kind of make sure that you keep on getting new customers as the old customers contracts died down?

John Sheridan

So Dev you are smarter than me. So I’ll qualify disagreement with you because it’s only slight. But as far as Engineering Services being more uncertain, I think you said in terms of growth I don’t agree with that, but let me just back up. So product revenue or product sales revenue as you are rightly saying, bigger growth opportunity as we talked about even for ‘14 50% type growth in telecom backup power system sales, 50% growth in material handling.

So obviously that growth will be a stronger growth rate than what we can generate in engineering services. So you just to do the arithmetic as you already have and the percentage mix of the business will change overtime as you get out to ‘15, ‘16 you’re trying to go beyond 14. So just the natural difference in growth rates the product sales will become a larger part of the mix.

Engineering services, we don’t really see growth being uncertain. We see a pretty strong pipeline there. We have an aggressive focus on it, we’ve got a Vice President dedicated to managing the top line and bottom-line in engineering service. We get a large growing group on execution behind that focus. So engineering service as we see a number of growth opportunities. We’ve got a number of proposals out there. We’re engaged with a lot of customer prospects.

The question though is having grown significantly last year talking about 30% growth this year, how quickly we can ramp up that business because it’s a people intensive business. So it’s not going be 50% growth in that business, but we do think the growth is certain, maybe rather than 30% when you get beyond this year you can think of the 20% to 30% range.

The other piece which I just want to mention because we didn’t spend a lot of time on it when you think about longer term beyond ‘15 and beyond that you’re talking about now and the revenue composition of the company, the other piece it will be very interesting is IP licensing. So the China license deal we announced last September is a significant first step. We’re engaged in another opportunity over the medium term. We would see significant potential there. So that will add to the revenue mix question and if we’re successful there it will obviously be an upside enabler on overall gross margin.

Dev Bhangui – Byron Capital Markets

Okay, thanks. That was great. I will ask a very quick one and then I’ll step aside and stay back in a queue. In terms of Van Hool, the 25, 27 bus modules are the bid. When do you expect it to come to fruition in the sense of when is that tender going to be decided?

Anthony Guglielmin

Well the intention yes we’re submitting it. The intention is to submit it quickly. It’s Tony here. I think John, we would expect to know by Q – at the end of the quarter, at the Q1 most likely, we expect to hear back but the actual shipments wouldn’t be till the end of the year we’ll be delivering at the end the year.

John Sheridan

That’s right. The work on the tender application by ourselves and Van Hool is pretty straight forward and that will be correct. The decision on EU funding could take a bit longer, we don’t control that, but Tony is quite right the key thing we’re focused on here if we move forward successfully that’s a late 2014 shipment activity.

Anthony Guglielmin

Yes absolutely. Maybe just and be bit more crisp in terms of we didn’t talked much, but we’ve talked a lot about our products. I would think just generally speaking on the bus side that’s why we’ve really didn’t focus too much on growth we think bus is just because of the timing of it is probably going to be somewhat flat to last year, but we’ll start delivering later in the year.

Dev Bhangui – Byron Capital Markets

Okay. So Van Hool is definitely not your – greater than 30% revenue, CAGR estimates or thereabout guidance in 2014?

John Sheridan

That’s correct. It’s pretty much – we’ve got it in – we’ve got bus in ‘15 relatively speaking flat to last year. So all the growth is coming in the other markets, yes.

Dev Bhangui – Byron Capital Markets

Okay. Thank you, gentlemen for taking my questions. And I’ll stand back in the queue, all the best.

John Sheridan

Thanks Dev.

Operator

The next question is from Les Sulewski of Sidoti and Company. Please go ahead.

John Sheridan

Hi, Les.

Anthony Guglielmin

Hi, Les.

Les Sulewski – Sidoti & Company, LLC

In terms of production. Can you talk a little bit more about your capacity utilization levels and then little color on what you are seeing with conditions of your suppliers, any changes in pricing or availability?

John Sheridan

Yes, I’ll talk for some of that. Just on the capacity issue and it comes back the earlier question on our CapEx. Right now that isn’t an issue for us. We’re running and just again just remind to all of our stock manufacturing is done here in Vancouver. We’re running probably about 30% or so capacity, 30% plus. We’ve got – we have a significant opportunity to grow here without further capital investment.

Our backup power business the assembly, the manufacturing assembly of the backup power unit the hydrogen and methanol in tier 1. And we’re currently running above the similar thing, we’re running a one shift operation tier 1. And so again we’re running call at about 30%. So we have – so from that perspective no issues there.

In terms of pricing, one of the cost reduction enablers for us over the last couple of years certainly has been in procurement as volumes go up and we’re continuing to see that. And we would expect to see that going forward. We generally talked about 5% to 10% each year. Again it will be volume be driven by with the ones we’re seeing we would expect that. And I think just on supply more generally, we have very good relationships with both on the fleet side and other. So no issues there whatsoever, we’re getting good supply. And frankly I think our volumes are helping us, we’re able to put in more predictable more regular orders. So you can appreciate that’s helping us on the supply side as well.

Les Sulewski – Sidoti & Company, LLC

Excellent, that will do for me. Thank you.

John Sheridan

Thanks.

Operator

The next question is from Jeff Osborne from Stifel. Please go ahead.

John Sheridan

Hey Jeff, sorry to keep you so long here and you’ve got the last, you are the last guy at the mike, so go ahead.

Jeffrey Osborne – Stifel, Nicolaus & Co., Inc.

All right. I appreciate it. Thank you very much. Thank you for giving the clues there on the cadence John about the revenue for the year. That’s helpful from a modeling perspective. Tony on the Azure revenue the remaining $5 million and change, is that more weighted to the first half and where I am going with this is kind of inverted where your EBITDA for the year assuming a breakeven is more positive on the front end side. It just looks like the Azure deal is about a third of your gross profit currently?

Anthony Guglielmin

Yeah, Jeff in terms of as we mentioned about $5 million roughly coming in from the licensing piece of that, and that’s over the next three quarter, really that about roughly September. So I would if I were skewing it I would probably think more Q2 to Q3 is opposed to one and I wouldn’t assume there much in the first quarter but we are speaking not as much.

Jeffrey Osborne – Stifel, Nicolaus & Co., Inc.

Okay. And then how what do you think about the lag between that development expiring in September and then when would products potentially come – evolve from that in China and you would be receiving the license. Is that six to 12 months kind of testing process there or how do we think about the evolution of that contract?

John Sheridan

Yeah Jeff you know lot about the China and about the bus business in China. So I wouldn’t want to lead anybody to think that this is going to develop more quickly in terms of actual production. So maybe just to give you a bit more, on the latest specifics. So we are impressed with what our partners doing so far. They are involved in a number of different bus, more broadly heavy duty transit opportunities.

So one of them which is quite significant and why I just broadened the application there is in a tram space which we think the technology will work very well and it will be an interesting value prop for us but the tram opportunity that could be fairly significant in Foshan, you probably know Foshan is in Guangdong province. So that is significant activities underway that activity underway on these things involved with both big private companies OEMs as well as government bodies in terms of funding.

So the timeline of that is a little hard to gauge. There is work being done in another geography which I can’t pinpoint at this time that would be more conventional transit at, there is also work going on the system integration side with a couple of partners in China. So the work we are seeing right now we are quite pleased by in terms of the breadth of it and the potential it would imply but as far as to your question when this actually gets manifest in actual orders and production and component sales and royalty for us so that’s going to take a while.

So I think that probably will be outside ‘ of 14. So ‘ 14 for us is more the licensing and the engineering services work with the China partner.

Jeffrey Osborne – Stifel, Nicolaus & Co., Inc.

Exactly. Okay I just want to confirm that. And just two other quick things. You mentioned two other auto OEMs that you are working beyond BW is it are you Ford and Daimler you are referencing or is there someone else?

John Sheridan

No, I can say it’s not Ford and Daimler. We still continue to do work for them as part of the AFCC Group and again as you know other people may not know they are tenants in our campus here so we continue to work with them not major activity at this stage. So when we talk about two automotive OEMs they are not those two.

Jeffrey Osborne – Stifel, Nicolaus & Co., Inc.

Okay.

John Sheridan

And I am sorry and I am not trying to be evasive but their work they feel as confidential in terms of the amount of development they are doing they don’t want their relationship disclosed at this stage.

Jeffrey Osborne – Stifel, Nicolaus & Co., Inc.

Completely understand. And I may have missed this or maybe you’ve just chosen to disclose it I think in the past you have disclosed that the 12 months backlog, is that something that you could provide?

Anthony Guglielmin

Yeah you didn’t miss it we just we didn’t mention. It is at the end of the year, it’s $43.5 million was the order book at the end of December and that would have been up slightly roughly flat to Q3 and it’s up from about 36 million a year ago.

John Sheridan

That’s in the press release Jeff, and you are right we haven’t put as much of the focus on it because quite frankly the further our business develops and the more telecom system product sales there is it’s such a short timeline between purchase order to delivery but some of that doesn’t even show in the order book.

Jeffrey Osborne – Stifel, Nicolaus & Co., Inc.

Excellent, I appreciate all the details and good luck preparing for retirement.

John Sheridan

Thanks Jeff I will be taking your advice. Anyways folks thanks for joining us on the call. We really appreciate your ongoing support at the company. We are quite excited about 2014 and we look forward to giving you an update report on our next call. Thanks everybody.

Operator

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

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