Good day, everyone, and welcome to the American Superconductor’s Third Quarter Conference Call. [Operator Instructions] With us on the call this morning are American Superconductor’s Founder and CEO, Greg Yurek; Senior Vice President and CFO, David Henry; and Managing Director of Corporate Communications, Jason Fredette. For opening remarks, I would like to turn the call over to Mr. Jason Fredette.
Thank you, Alicia, and welcome to the call, everyone. Before we begin, please note that various remarks management may make on this conference call about American Superconductor’s future expectations, plans and prospects constitute forward-looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995.
Actual results may differ materially from those indicated by such forward-looking statements as a result of various important factors, including those discussed in the Risk Factors section of the company's annual report on Form 10-K for the fiscal year ended March 31, 2010, and subsequent reports filed with the SEC. These forward-looking statements represent the company’s expectations only as of today and should not be relied upon as representing the company’s views as of any date subsequent to today. While American Superconductor anticipates that subsequent events and developments may cause the company’s views to change, the company specifically disclaims any obligation to update these forward-looking statements.
I also would like to note that we’ll be referring on today’s call to non-GAAP net income or net income before amortization of acquisition-related intangibles, restructuring and impairments, stock-based compensation, other unusual charges and any tax effects related to those items. Non-GAAP net income is a non-GAAP financial metric. A reconciliation of non-GAAP to GAAP net income can be found in the press release we issued and filed with the SEC this morning on Form 8-K. All of our SEC filings can be accessed from the Investors Page of our website at amsc.com.
And finally, I'd like to note that we'll be taking part in several upcoming conferences including the Deutsche Bank's Small and Mid Cap Growth Conference on February 16 in Florida and the Jefferies and Co. Global Clean Tech Conference in New York on February 23. The Deutsche Bank event will be webcast. More details on that will be published next week.
With that, let me turn the call over to CEO, Greg Yurek.
Thanks, Jason, and good morning to everyone. We are proud to be reporting to you on our 16th consecutive quarter of revenue growth and a record quarter of profitability here at AMSC. As you will hear from Dave Henry in more detail in a few minutes, we expect to end fiscal year 2010 in powerful fashion as we achieved another quarter of sequential revenue growth with gross and operating margins at or near record levels in our fourth fiscal quarter. The strength of our third quarter results was driven not only by continued growth in our Wind Power business, which remains quite strong, but also by record Power Grid Revenues. Power Grid revenues grew by 60% year-over-year and represented nearly 20% of our total revenues for the fiscal third quarter. We believe revenues for our Power Grid-related products including D-VAR, D-VAR RTs, Solartie, Amperium wire and superconductor cable projects will become a much bigger contributor to our growth over the next 12 to 24 months.
Another feature of our third quarter was that virtually all of our revenues and orders for the third fiscal quarter were from outside the United States. That perhaps should not come as a surprise because we are a multinational power technologies company with a focus on the wind energy and power grid markets, and we are, moreover, specifically focused on these markets in China and other fast-growing economies in the Asia-Pacific region. The corollary to that, by the way, is that we are not dependent on the wind energy and power grid markets in the U.S. and Europe, which have been in the doldrums over the past couple of years. While we expect the U.S. and European wind and grid markets to revive and grow quite attractively in the years ahead, for right now, our focus must continue to be on China and other fast-growing economies in the Asia-Pacific region, continuing our strategy of the last six years.
In 2005, we had already developed and begun implementing our globalization plans and our strategy to penetrate the Chinese wind energy and power grid markets. Since that time, we have set up separate divisions in countries around the world that are each headed by a local general manager from the country and are staffed by engineering, sales and field service personnel, and in the case in China, manufacturing personnel, to serve those local markets. As simple as it sounds, American companies do not always take this approach, but we believe this is clearly the best strategy to succeed in local markets around the world. Today, in fact, a majority of American Superconductor's 850 employees are located outside the U.S., enabling us to be well positioned to attack the global opportunities in the wind energy and power grid sectors country by country.
The first significant leg of growth emerging from our globalization strategy has been in the wind energy market. Here, we have a liner [ph] sales with a dozen wind turbine manufacturers in six countries, again primarily in the Asia-Pacific region, by licensing wind turbine designs to them or co-developing wind turbine platforms with them. The key steps in the strategy are to fully support each new licensee by helping them build their first prototype wind turbine, helping them localize their supply chain and getting them into volume manufacturing, which is when our sales start to take off.
About half of our current wind turbine licensees will be in volume production in 2011. And in 2012, virtually all of our licensees are expected to contribute meaningful revenues to AMSC, some from multiple wind turbine platforms. Of course, our largest geographic market from a revenue perspective today is China where the wind market continues to grow. According to the Chinese Renewable Energy Industries Association, China installed over 16 gigawatts of wind power in 2010, a new record, up from a little over 13 gigawatts in 2009. To put this in perspective, the 16 gigawatt that China installed in 2010 roughly equaled the amount of wind power that was installed everywhere outside of China and was triple the amount that was installed here in the United States. This enabled China to surpass the U.S. as the world's largest adopter of wind power with total installations of approximately 42 gigawatts compared with 40 gigawatts here in the U.S
So it's quite obvious that China is the market to be in from a renewable energy perspective now and into the future. With six Chinese wind turbine manufacturers on our customer roster, AMSC is a key enabler and beneficiary of China wind. We believe 2011 will be another record year for the Chinese wind market. And even though the amount of wind turbines installed in China may increase only moderately year-over-year, we believe our rate of growth will be higher because we expect to be taking more market share each year going forward.
Today, AMSC's power electronics and control systems are contained in roughly 25% of the wind turbines produced in China. In the years ahead, we believe we can grow our market share in China to 50%. In doing so, we should see our global market share grow from about 10% today to more than 20% in the years ahead. One way that we expect to capture a greater share of the market in China specifically is through our largest customer, Sinovel. Sinovel ranks third in the world in terms of wind turbine production, and they just recently completed a successful IPO on the Shanghai Exchange, raising $1.4 billion. Sinovel stated use of proceeds from its IPO is to help it fuel its production of multi-megawatt wind turbines that were developed with AMSC and are powered by AMSC power electronics and controls. We expect to close follow-on orders from Sinovel in the next three to nine months for 3-megawatt and 5-megawatt wind turbine core electronic components and control systems, which bodes well for our business later in fiscal 2011 and beyond. We believe Sinovel is well positioned to capture market share north of 30% in China in the years ahead. Sinovel has, in fact, stated publicly that it aims to be the number one wind turbine manufacturer globally in a few years and, of course, we will do all we can to support their growth plans, both within China and in Western markets.
Beyond Sinovel, we expect to see an increased revenue contribution from Chinese customers such as XJ Group and Shenyang Blower Works, which are scaling production of AMSC-enabled wind turbines today, and from Dongfang Turbine Company which should start producing 3-megawatt wind turbines late this year. And then there is our newest wind turbine licensee, Beijing JINGCHENG New Energy or JCNE. This company has been producing wind turbines in China for several years under our licensing agreement with a European company. Under the contract that we signed with JCNE in December, we have license for new proprietary wind turbine designs to them, 2-, 3- and 5-megawatt full conversion systems and a 3-megawatt turbine employing our unique super drivetrain. JCNE plans to begin production of its 2-megawatt wind turbines this calendar year and its 3-megawatt full conversion wind turbines soon thereafter. So look for that first production order to AMSC for full electrical control systems from JCNE later this year.
Looking outside of China. We closed orders in the third fiscal quarter with Doosan Heavy Industries in Korea and with Inox Wind of India for core electronic components and control systems for their initial wind turbine production runs. And by the way, with Hyundai Heavy Industries in Korea, not to forget them, we would expect follow-on orders from them in the relatively near term as well.
So while revenues remain concentrated with one customer today, we believe the growth in our sales to additional wind turbine licensees in the next year and beyond and the growth of our power grid sales going forward will lead to Sinovel being well under 50% of our total sales within the next several years. This forecast decreasing the amount of our sales to one customer is tied quite directly to the plans we are implementing to accelerate our growth to $1 billion in revenue, annual revenues, with operating margins in excess of 20%. Our plan has been to achieve these financial metrics in fiscal year 2015. However, with a strong technology and business platforms we have established, the successful equity offering we completed in November 2010 and the new growth strategies we are implementing, we believe we have a pathway to shade at least one year off that plan. We will share more details of our plans with you on this front during our next earnings call and at our Analyst Day, both of which we expect to be in May.
Now, however, let's touch briefly on some of the growth strategies we have in mind. As stated earlier, we expect growth in our Power Grid sector, which has picked up nicely, to continue in the years ahead. We see great opportunities for power grid sales in the Asia-Pacific region generally going forward. However, we believe the China power grid market is going to be especially important for us. As the world's biggest adopter of renewable energy, China is facing significant grid interconnection issues that we are well positioned to address. Our initial D-VAR installations in China are performing well, and we are pursuing additional business in this area for both general power grid use and for grid interconnection of wind farm. Furthermore, we believe China could adopt new low voltage ride through or LVRT requirements in 2011 that would present us with a great incremental power grid sales opportunity in the year ahead. And as China moves to install large-scale solar PV farms, we believe there will be significant growth opportunities for our Solartie grid interconnection solution in that country.
Superconductors, which are now coming of age, are also expected to play a pivotal role in our next phase of growth. We spoke last quarter about our first commercial volume Amperium wire order from LS Cable in Korea and the $300 million in additional Amperium wire orders and cable projects that we see in the pipeline over the next few years. We believe that Korea may well be the first country to deploy superconductor power cables on a grand scale. And our AMSC Korea team is in hot pursuit of that opportunity.
However, the superconductor orders pipeline also includes a project with China's State Grid Corporation, which operates 88% of China's power grid. State Grid plans to install its first superconductor power cable in the Chinese grid by the end of 2012. We believe State Grid will have a bid spec [specification] on the Street soon for this power cable, and that we will know the results of their bid processes in 2011. So watch for this is a significant benchmark for the superconductor industry and for American Superconductor.
So in terms of superconductor power grid opportunities, the games afoot. There's a lot of bid activity going on around the world in China, Korea, Europe and the U.S., and we are very excited about superconductors for power cables really taking off this year in terms of new orders and cable projects getting underway. And let's not forget that beyond power cable order opportunities, we are also actively pursuing our first SeaTitan superconductor wind turbine licensees. Discussions are ongoing, and we are optimistic we will close our first licensee in the not-too-distant future.
In addition to the organic growth strategies I've touched on, we also believe there are opportunities to accelerate our revenue and profit growth inorganically. Blade Dynamics is a good example. As you may recall, we made a minority investment in this company in 2010, alongside Dow Chemical Company. Blade dynamics is executing its business plan on schedule and has started adding staff at its new manufacturing plant in Louisiana. We believe Blade Dynamics' proprietary blade technology will help our wind licensees gain market share faster and in turn, drive higher sales volumes for our wind turbine power electronics and controls.
We also have a minority investment in Tres Amigas, LLC. We increased that investment by $1.8 million, just a few weeks ago and have committed to invest another $1.8 million subject to Tres Amigas meeting certain milestones in the months ahead. Tres Amigas has garnered international attention for its plan to tie together America's three power grids for the first time ever, and it has assembled a team of partners and vendors that resembles a who's who of transmission including Burns & McDonnell, CH2M Hill, Alstom, LS Cable, Nexans and of course, American Superconductor. All of us are working aggressively to get this project underway, and we are making good progress.
This would be a boost for our nation's energy sector because quite simply, without transmission projects like Tres Amigas, the vision of generating a substantial amount of our electricity from clean energy sources simply cannot be met. We believe strategic investments such as these will help speed the adoption of AMSC's solutions and contribute excellent bottom line returns over the long term. We will, of course, also continue to explore opportunities to make additional strategic acquisitions that would be accretive and could help us broaden our product portfolio and the customers we serve.
So fiscal 2010 has been a tremendous success, thus far. We look forward to closing the year in strong fashion and are working aggressively to meet our objective of achieving $1 billion in revenues with operating margins in excess of 20% within four fiscal years.
Now let me turn the call over to Dave, who will review our third quarter results in a lot more detail. Dave?
Thanks, Greg, and good morning, everyone. We're happy to be speaking with you about a robust third fiscal quarter at AMSC. This marked our 16th consecutive quarter of sequential revenue growth and was also a record-earnings quarter.
In fact, our net income for the third fiscal quarter more than tripled year-over-year. Revenues for the third quarter of fiscal year 2010 were a record $114.2 million. This is up approximately 12% from $101.5 million for the second quarter of fiscal 2010 and 42% from $80.7 million for the third quarter of fiscal 2009. While shipments of wind turbine power electronics and control systems accounted for the majority of our year-over-year revenue growth, our power grid solutions drove the majority of our sequential revenue growth. As Greg mentioned, we expect to see continued strengthening of our power grid-related sales in the years ahead.
We generated approximately 82% of our third quarter revenues in the wind power sector, with essentially all of the remainder coming from our power grid solutions and projects. We generate the vast majority of our revenues outside of the U.S In the third fiscal quarter, we generated 97% of our wind energy and power grid revenues outside of the U.S. with the remainder essentially coming from superconductor projects.
Sales to China's Sinovel wind represented 73% of total revenues for the third fiscal quarter, down from the previous quarter because of the increase in power grid revenues in third quarter compared with second quarter. Our backlog as of December 31, 2010, stood at approximately $883 million, down from $956 million as of September 30, 2010, and up from $546 million as of December 31, 2009. As we said in the past, that due to the long-term nature of many of our customer contracts, bookings tend to be lumpy on a quarter-to-quarter basis. In the third fiscal quarter, our bookings were in excess of $50 million. We also reversed approximately $20 million worth of backlog related to a core component contract of one of our Windtec licensees, Ghodawat, since we no longer expect them enter volume wind turbine production due to organizational changes within that company even though the contract remains in place.
We expect to enter our new fiscal year 2011 on April 1, 2011, with a strong total backlog which will give us very good visibility to fiscal 2011 revenues and beyond. We plan to provide our guidance for fiscal 2011 when we provide our results for the fourth quarter and full fiscal year 2010 in May. Gross profit for the third quarter of fiscal 2010 was $46.5 million and our gross margin was 40.7%, which compares with 40.7% in the second fiscal quarter and 37.5% for the third fiscal quarter of fiscal 2009. Because of our ongoing hedging activities, changes in exchange rates had only a minimal impact on gross margin in the third fiscal quarter. Approximately 67% of our forecasted euro cost exposure in the fourth quarter related to wind core component sales is hedged at a rate of approximately $1.32 per euro compared to a bonded rate of approximately $1.28 per euro in the third fiscal quarter.
A favorable product mix from higher wind core component shipments is expected to offset any foreign exchange headwinds with respect to gross margin in the fourth quarter. R&D expenses for the third fiscal quarter were $9.1 million or 8% of revenue. This compares with $7.9 million or 8% of revenue for the second quarter of fiscal 2010 and $6.4 million or 8% of revenue for the year-ago quarter. SG&A expenses for the third fiscal quarter were $15.6 million or 14% of total revenue. This is down from $17.1 million or 17% of total revenue for the second quarter of fiscal 2010 and is up from $12.9 million or 16% of revenue for the third quarter of fiscal 2009. The sequential decline was primarily the result of lower stock compensation expense related in part to annual restricted stock grants to our Board of Directors in the second fiscal quarter.
Our expectation continues to be that our combined R&D and SG&A expenses as a percentage of revenue in fiscal 2010 will be lower compared to the prior fiscal year. Operating income for third quarter of fiscal 2010 was $21.5 million, and our operating margin was a record 18.8%. This compares with an operating margin of 15.7% in the prior quarter and 12.9% for the third quarter of fiscal 2009. Longer term, our intent is to drive our operating margin well in excess of 20% as we achieve greater operating leverage and reduce our losses in the superconductors business.
We reported other income of $2.1 million in the third quarter of fiscal 2010. This compares with other income of $2.4 million in the second quarter of fiscal 2010 and $200,000 for the third quarter of fiscal 2009. Other income recorded in both the second and third quarters of fiscal 2010 was primarily due to net foreign exchange translation gains. Our income tax expense for the third quarter of fiscal 2010 was $7.8 million, equates with an effective tax rate of 33%. Our effective tax rate is down significantly from 46% for the second quarter of fiscal 2010 and 52% for the third quarter of fiscal 2009. The sequential decline in our effective tax rate in the third fiscal quarter was due to a particularly strong revenue quarter for our D-VAR product line, which resulted in lower losses in our U.S. operations. We expect higher U.S. losses in the fourth fiscal quarter due to a more normalized level of D-VAR revenues, and as a result, we expect an increase in our effective tax rate in the fourth fiscal quarter compared to third fiscal quarter.
For the third quarter of fiscal 2010, we reported net income of $16 million or $0.33 per diluted share, a new company high. This compares with net income of $10 million or $0.22 per diluted share for the second fiscal quarter and is more than triple the $5.2 million or $0.11 per diluted share that we reported in the third quarter of fiscal 2009.
As Jason noted at the outset of the call, we use non-GAAP net income, which approximates cash based earnings from operations to track our financial progress, and we report this metric each quarter. We also provide guidance for non-GAAP net income on an annualized basis. These numbers are reconciled to GAAP in tables at the end of our earnings press release.
Our non-GAAP net income for the third quarter of fiscal 2010 was $19.8 million or $0.40 per diluted share. This is a significant increase from our second fiscal quarter non-GAAP net income of $14.6 million or $0.32 per diluted share, and our non-GAAP net income of $9.1 million or $0.20 per diluted share for the year-ago quarter.
In our business units. AMSC Power Systems contributed revenue of $112.1 million or 98% of our third quarter revenues. This is a 46% increase from $77 million in the year-ago quarter. AMSC Power Systems generated operating income of $31.8 million, resulting in a 28% operating margin for the third fiscal quarter. This margin level is up from 26% for the third quarter of fiscal 2009. Our AMSC Superconductor segment generated revenues of $2.1 million or 2% of our third fiscal quarter revenues, which is down from $3.6 million for the third quarter of fiscal 2009. The decrease in revenues was due to a large wire shipment in the prior-year quarter.
The operating loss at AMSC Superconductors for the third fiscal quarter was $6.9 million. This compares with an operating loss of $5.9 million for the third quarter of fiscal 2009. The increased operating loss in the third quarter of fiscal 2010 is due primarily to lower revenues. As a reminder, stock-based compensation expense is not allocated to our reporting segments.
As of December 31, 2010, AMSC had $260.5 million in cash, cash equivalents, marketable securities and restricted cash. This compares with $131.2 million as of September 30, 2010, and $155.1 million as of March 31, 2010. The follow-on stock offering that we completed in November 2010 drove the sequential and year-over-year increase.
I'd like to take a moment and address our accounts receivable. For most of this fiscal year, Sinovel has been paying us between 60 and 90 days after shipment. All shipments to Sinovel during the third quarter occurred within the last 60 days of the quarter. So while DSO, based on average accounts receivable, increased from 76 days in the second fiscal quarter to 83 days in the third fiscal quarter, payments have not been delayed despite the reported increase in accounts receivable.
So far this quarter, we received $30 million from Sinovel and more is expected soon. Please note that our accounts receivable and DSO includes the effect of a reclassification during the quarter of value-added taxes or VAT from accounts receivable to other current assets. This was done in order to more closely align accounts receivable with reported revenue as we do not record any revenue related to VAT. Prior amounts have been reclassified to conform to the current year presentation. Reduced inventories as a result of strong D-VAR shipments in the quarter drove days of inventory down to 55 days in the third fiscal quarter from 69 days in the prior quarter.
Now let's discuss our latest financial forecast for fiscal 2010. Our revenue forecast range for the full fiscal year remains unchanged at $430 million to $440 million. We are, however, increasing our forecast for net income from a range of $44 million to $46.5 million to a range of $48 million to $50 million. This would enable us to deliver fiscal 2010 diluted earnings per share of between $0.99 and $1.04, which is higher than the $0.95 to $1 per diluted share that we forecasted last quarter. This is despite the dilutive impact of our recent stock offering.
Our non-GAAP net income guidance has also been increased from a range of $60.5 million to $63 million or $1.30 to $1.35 per diluted share to a range of $64.5 million to $66.5 million or $1.33 to $1.38 per diluted share. This guidance implies a forecast of fourth quarter non-GAAP net income in a range of $17.2 million to $19.2 million or $0.32 to $0.37 per diluted share. It is important to note that we expect that both gross and operating margins in the fourth fiscal quarter will be at or near record levels on record revenues.
Below the operating line, we are forecasting lower foreign exchange gains and a higher effective tax rate in the fourth quarter. Lastly, of course, our share count in the fourth fiscal quarter will increase compared to third quarter as it will fully reflect the 4.6 million shares issued in our recent stock offering. Roughly half of the 4.6 million newly issued shares were included in our third quarter of weighted average share count. Finally, we continue to expect that CapEx will be in the range of $40 million to $50 million for the full fiscal year.
With that, let me turn the call over to Alicia, who will provide the instructions for our question-and-answer session.
[Operator Instructions] We will take our first question from Jeremy Hellman from Divine Capital Markets.
Jeremy Hellman - Singular Research
A question for David. With respect to Power Grid segment stuff. Do you anticipate breaking that out on to its own mine anytime soon?
I guess the question is in terms of reporting, do we expect that we'll change our segments anytime soon? I guess the answer to that is no, there's not an anticipation that we'll change our segments at this time. And by the way, I want to point out that, Dan McGhan, our President Chief Operating Officer is also here in the room. So I may direct a question or two to him as we go through the call.
Our next question comes from John Hardy from Gleacher & Company.
John Hardy - Gleacher & Company, Inc.
I wanted to go in a little bit more. I know it's pretty far out there but the $1 billion target for 2014. Again, I know it's early but I was wondering if you could give us some detail on what you think the breakout there will be between HTS (high temperature superconductor) wind and ancillary grid business like D-VAR and that good stuff?
Yes, we're not going to give a detailed breakout on that to be sure, but we pointed out in the last few months that, for example in our Wind growth rate, as SeaTitan starts to make an impact there in the outer years of that five-year plan, it will accelerate the Wind segment, the wind growth rate as we've called it. And I think the bigger one is going to be with superconductors. Superconductors, in the terms of cables for Power Grid sectors is really going to accelerate the Power Grid sectors. So Power Grid, as I mentioned, includes not just the Amperium wire and the super conductor power cables but D-VAR, D-VAR RT and Solartie which is a new product. So Solartie coming in here, sales starting up as we've always said in 2012, is going to be we think a significant contributor to that. We think, as I mentioned in the call, with new standards coming into the wind arena, particularly in China, this year, for low-voltage ride through, we believe we have the right solution for that, and we think they'll be a nice uptick in our revenues associated with low voltage ride through sales. So those are some of the contributors here, but the big contributor over the next few years is going to start to be superconductors to that $1 billion in our five-year plan.
The other thing to note too as we did mention in the call that we do expect by the time you get out to that point in time, Sinovel is well below 50% of our total revenues.
And of course, we talked also in this call about shaving a year off of that five-year plan, and I'm not going to get into anymore specifics on that, but we listed in my remarks some of the ways we will be doing that, and we feel very confident we'll be able to, in fact, achieve that $1 billion in revenue. And I think it's very important to add that's with in excess of 20% operating margins in that four years or less from now.
And we'll take our next question comes from Timothy Arcuri from Citi.
Timothy Arcuri - Citigroup Inc
First of all, Dave, what do you think the receivables balance will be given the payments that you've gotten in this month? What were the receivables balance be at the end of the March quarter? Because the last time you got some payments in the following months, the DSOs still went up. So I'm curious what you think the balance will be? And then secondly, last year, you guys tightened the range for the last fiscal quarter of the year to about $3 million, but it's much bigger than that this year. It's about $10 million, so you didn't tighten the range. Is there any reason why?
So on the first question related to the AR balance, I mean we're not guiding to what our balance is going to be on that. But I guess I will tell you that if you look back in history and you look at our operating cash flows, there seems to be a seasonal pattern emerging with our operating cash flows. I can go back two years and point to the fact that first and third quarters, we always have a down quarter for operating cash flow and then that recovers in the second and fourth quarter. So if fourth quarter were to follow that seasonal pattern, I imagine that will be driven by accounts receivable collections. And so if we're able to do that, then the result would be lower accounts receivable. But that's only if that seasonal trend were to continue, and we're not providing any guidance to that.
And Tim, this is Greg. With respect to your second question. If you take the mid range of the guided revenue, it's about 38% growth in revenue year-over-year, and we think that's a pretty strong growth. So we're very happy with that. And by the way, the earnings, non-GAAP earnings per share or non-GAAP earnings for that matter is about 100% growth year-over-year. So we think this is a spectacular year for us. And as I said, the games afoot we're looking forward to the next year and the next few years thereafter to continue this very fast growth rate.
Our next question comes from Ben Schuman from Pacific Crest Securities.
Benjamin Schuman - Pacific Crest Securities, Inc.
Can you talk a little bit about why you decided to wait until May to give guidance for the out year, given that the last couple of years, you guys have come out and given some directional guidance a little bit earlier than that?
Well, I think you said the key word there. In the last few Analyst Days, maybe last three perhaps, we've given a sense of direction because it was an earlier stage of the company we wanted to give some idea that we were going to be growing, that, that was important and we thought at that time. What we found is that because of that, we subsequently got punished because we didn't up our directional sense or sense of direction on the revenues. Last year, we said we think we'd achieve over $400 million and we left it at that and we got punished because it's not good for our shareholders to do that. So we decided, "Let's get that year done with, let's go into the year-end earnings call and then we will go right into Analyst Day and we can really dig into our strategies, our numbers whatever else we need to cover at that time." So we think this is the right way to do it.
We will take our next question from Theodore O'Neill from Wunderlich Securities.
Theodore O'Neill - Wunderlich Securities Inc.
Just looking at the customer list for the wind turbine customers. You had a pretty big ramp in terms of adding customers, and it sort of settled in here. You've added JCNE but sort of lost Ghodawat. It looks like TECO in model energy, maybe you're pushing out a little bit. Can you talk about how we should think about you adding customers? Or is there a limit here into the number of customers you can serve on the Wind Turbine business?
Well, with respect to the first part of that, I guess you know the cream rises to the top as we used to say in the past, and so we're seeing the strong winters come through here. Ghodawat had some internal family squabbles and those things happen, and so you have to put it aside. We don't expect growth there. Going forward, though, in terms of new licensees, we were very actively engaged in other growth economies, and I think that's again where we need to be focused outside of China and even outside of Asia-Pacific region. Brazil, for example. Brazil has had a lot of renewable energy in the form of hydro. However more recently, they're starting to bring a focus on to wind. Well, they don't have a domestic wind turbine manufacturer so we think here's a growth economy, strong growth economy, here's a country that doesn't have a domestic wind turbine manufacturing yet. They're going in that direction, so we're spending effort as you can well imagine to attack that market. And there are others like that around the world. Russia, for years, has said no, they're not going to really go to wind. They have all this natural gas. On the other hand, more recently, they are now looking quite seriously at adopting wind energy as a source, an additional source of electricity. So we're looking at all of those deal, but again focusing on the growth economies is the right thing. Eventually, the U.S., as I said, is going to come back in the wind area, we believe. Some companies are saying, in fact even this year, the wind industry will start growing again primarily because some of the incentives from the government. We think that our customers Sinovel and Hyundai Heavy Industries will be attacking the market here in the U.S, and we're strongly supporting them in doing that. So watch this page in terms of our entry into the U.S. primarily through our licensees outside the U.S But there could still well be another licensee within the U.S. itself as well going forward. So we'll keep adding to the list in a prudent way I think going forward.
Our next question comes from Colin Rusch from ThinkEquity.
This is actually Brandon Miller [ph] for Colin Rusch. You spoke to some of the geographic mix for the wind turbine-related stuff, and I was wondering if that would be kind of similar for the rest of your products, in particular, the power grid? And then also for the power grid, are you developing some off grid or micro grid kind of power solutions that you might be able to speak about right now?
Well, no is the answer on the micro grid side. But I'm going to let DanMcGhan, our President and Chief Operating Officer, address the first part of your question.
Yes, on the micro grid farming, we're a megawatt-scale type provider, so we're more focused on utility scale. That's where our bailiwick really hits home. You heard a bit in the commentary from Greg and Dave echoed it, when we look at our power grid strategy, in some ways, it mimics what we're doing in wind. We see the Asian-Pacific economies investing not only in renewables but also in the grid infrastructure to support them. You've heard news from the company about our ability to develop business in Korea. You heard today, again, the emergence of a business for power cables in China. So we see a bit of a repeat there on the grid side. But if we broaden it, and we look at all of our products across the grid product line and we already today experienced very good traction in the European and the North American markets for our grid interconnection solutions. So we see the power grid market actually today being more diverse graphically.
The other thing I would add too is that I think it's fair to say that the majority of our power grid revenues during the quarter occurred outside of the U.S., particularly in Asia Pacific, and we talked earlier about a customer in Australia for -- that's just that we had a large order for D-VAR, and we shipped part of that order in the third quarter.
Our next question comes from Stuart Bush from RBC Capital Markets.
Stuart Bush - RBC Capital Markets, LLC
In regards to your Tres Amigas, what percentage of the JV do you guys now own? And has the other partner has also put in additional capital? And then to follow on to that, can you give us an update on what's the FERC is looking to do to the -- I guess they previously denied to late jurisdiction on an exception for ERCOT for right -- or you're having oversight on ERCOT if the try to make it connected to other grids. What's the status there and when do you expect to hear a decision on that moving forward?
I'll take the first part of the FERC and then let Dave address the percentage line, I'll get the number wrong. But on FERC, there has been, I mean they gave a ruling, Tres Amigas can be treated basically as a market hub within the usual kind of restrictions and the second ruling was on as you said, Stuart, on the interconnection of ERCOT to the grid and whether or not FERC would get jurisdiction over any transmission coming out of ERCOT. And they said, we can't do it. FERC said they can't do that on a blanket basis, but they would take each case up on a case-by-case basis. There have been some challenges to even that statement by the FERC which have, in fact, been beaten down if I could put up for the technical term is and put aside. And so the original ruling is still in place. And as each case comes up, it'll be taken up on that case-by-case basis. The FERC, of course, was very encouraging in terms of what it would do with those case-by-case basis.
Stuart, with respect to your first question on the investment, we're not disclosing the amount of our total ownership interest in Tres Amigas. I will tell you it's still a minority, and that there were current investors that also adding capital on this round as well.
Our next question comes from Ben Kallo from Baird.
Benjamin Kallo - Stanford Group
Could you just give us a little more detail on your margin? That was pretty strong this quarter than last quarter. Was that a mix towards the grid products? And then also as we look forward in larger turbines become a larger percentage of your revenue, how is that going to affect your margins? Do you get lower margin on the 3-megawatt in margin turbines or is that equal or less?
On your first question, gross margin was actually basically flat compared to second quarter. It was 40.7% in each quarter. So I'm not sure where you got the comment about maybe lower. But we said in the past that when we have a greater mix of wind turbine core component sales, that's a benefit to our gross margin. And that's what we've set for the fourth quarter as well as we expect a higher mix of there.
Our next question comes from Carter Shoop from Deutsche Bank.
Carter Shoop - Deutsche Bank AG
In regards to the reclassification for the VAT on accounts receivable, what was the impact there? And in regards to that $1 billion target in four years, is there any longer-term compensation being tied to that goal? And then my real question is SG&A. If you look at SG&A, in the quarter, obviously, down as a result of the stock options there. But if you look at the past two quarters, sales are up 17%. SG&A is up only 3%. Why aren't we seeing more investment on the SG&A line?
You want to pick one of those four questions?
So let me take your first one, the reclassification impact. It was about $15 million to $16 million or so in the current quarter then we reclassified out to other current assets. And as I said, we did that, DSO is a metric that is tracked, and we don't record any revenue on VAT, so that artificially distorts DSO when people are looking at our balance sheet. So we felt it was prudent to do that and many other companies do the same thing. On SG&A, if I got all your questions right, the reason for the sequential decrease was primarily due to stock comp expense. You know every year in the second quarter, we give a restricted stock grant to our Board as part of their overall compensation. And so if you look back in time, we always have a spike in stock compensation expense in the second quarter then it drops back down in the third. So that's the primary reason, but we do can continue to invest in things like sales and marketing. We try the whole down thing as best as we can, obviously, the overhead, the SG&A.
In terms of your question about compensation being tied to the billion dollars in revenues. No, there is no specific compensation package tied to that. However, the Board measures us every year and has done for a good, good many years in terms of our financial metrics. Net income has been the typical theme objective for the last several years. And of course, individual measurable objectives relate to profits in business units and so forth as well as revenues and orders that are brought forth during a given year. So no, on the billion dollars and yes on everything else that is good financial metrics, of course.
Our next question comes from JinMing Liu from Ardour Capital.
JinMing Liu - Ardour Capital Investments, LLC
Acquisitions were mentioned as a way to grow your revenue reaching that $1 billion mark. Can you provide us more details regarding say, in what areas you will look into acquisition? If possible, the five on your targets?
Well, no, we don't have any specifics this year, of course. But what we said is first of all, we're looking for accretive acquisitions and we'd look and we examine things that come across our desk on a quite regular basis that have to do with power grid, that have to do with wind, that have to do with solar. So it'd be right in our core business areas in electric power applications. And that, I guess is the general answer I can give you today.
Our next question comes from Jim Ricchiuti from Needham & Company.
James Ricchiuti - Needham & Company, LLC
Just based on your backlog, should we assume that Sinovel is a similar percent of revenues in Q4? Or do you see continued convergence or growth accelerating in that non-Sinovel portion of the Power Systems business?
Yes, Jim. We haven't really guided to what customer concentration is going to be in the fourth quarter. We're not prepared to do that today, but we did mention that overall wind core component sales would be a higher part of our mix in the fourth quarter.
Our next question comes from Pavel Molchanov from Raymond James.
This is actually Alex for Pavel. You touched on those briefly in your comments earlier, do you have any thoughts on what China's level of wind inflation is going to be again into '11? And kind of following up on that, do you see that the percentage of the wind capacity in China that hasn't been connected to the grid in the past, have you been seeing that come down or do you have any thoughts on whether that's going to be coming down this year?
We've looked at a lot of information. Of course, we have a lot of feed on the street there in China. We think it probably goes 16 to 18 gigawatts of shipments in 2011. And as of 2010, where we saw more connections to the grid occurring, but it's still something at 25% range of wind turbine is not being connected to a grid. They're getting better on it, they're moving faster, the gap is closing but I think it's going to be like that for a while as they continue to build out wind as rapidly as they can. Don't forget, one of China's objectives, and I say China not an individual company per se, China's objective is to be a net exporter of wind turbines in the years ahead. So they're going full blast to meet their internal needs today and at the same time, they're doing that, they're building up all the supply chains in the basic industry that can ship wind turbines around the world and of course, setup manufacturing from that base in other countries around the world to meet local needs. So they're doing, I think, quite well at this.
Our next question comes from Paul Clegg from Mizuho.
Paul Clegg - Mizuho Securities USA, Inc.
You talked a little bit about acquisitions, and I wanted to know as you try to broaden your share of the value of the turbine and other products, does that pull you into some more capital capital-intensive parts of the value chain? And if so, Greg, how do you think about balancing that out, the goal of providing more value with wanting to be kind of capital light which has been one of the really great parts of your business model up until now?
Yes, and we still see ourselves be capitalized. So I think I could say with conviction, don't look for us to look at an acquisition or something that makes powers or things of that nature. However, there's a lot of guts within a wind turbine that are high value-added, high-technology products and parts of the drivetrain which we're really good that, we think it. And so there's a lot of opportunity in that space, Paul. When you look at, in the grid side here, low voltage right through, new standards coming on. We've done some of this in the past. We've solved a lot of problems. We think we have some great opportunities there. But you know, there could be some opportunities for acquisitions in the low voltage right through. So Power Electronics, full systems, that sort of thing, some of which goes into the guts of the wind turbines, some of which goes into the guts of the power grid. So that's the general direction. But not capital-intensive businesses. I just don't see us doing that in any way going forward, high value-added products.
Our next question comes from Anthony Kitch [ph] from Barclays Capital.
Vishal Shah - Barclays Capital
This is Vishal Shah from Barclays Capital. Greg, can you talk about your bookings breakdown between grid and wind customers in the fiscal third quarter? And it sounds like your non-Sinovel wind revenues in the quarter declined sequentially. Can you talk about what sustainable run rate we should expect in both the non-Sinovel wind customers and also grid customers?
Yes, as to your first question on the bookings breakdown, we don't break down, obviously, our bookings by customers. I'm afraid I'm not going to be able to go there. Obviously, though, I mean when you look at our overall backlog, Sinovel makes up a large share of our backlog. Now with respect to your other question, with respect to I guess non-Sinovel wind, I guess, I mean, overall, Sinovel revenues, they were 73% in the third quarter and was down from about 79% of the second quarter. And as I look over our list, I would say I'm not seeing appreciable movement one way or the other in our overall, say non-Sinovel wind revenues. So that wasn't really a meaningful contributor to our revenues one way or the other in terms of the direction one way or the other during the quarter.
Our next question comes from Jesse Pichel from Jefferies.
Jesse Pichel - Jefferies & Company, Inc.
Mr. Yurek, can you confirm is the first SeaTitan being built now? And what will you do with that first SeaTitan? Will it be a DoE demonstration project and where will that be installed? And my second question is, up until last week, Egypt had bids out on about 1,000 turbines, I think 2.5 gigs. I think Siemens and the Japanese had to jump on that. Do you know if any of your customers are exposed in Egypt?
We have on that question and I'm going to turn the first one over to Dan to give him a chance here to answer your question. No exposure in terms of Egypt for any of our customers. There is some in the Mid East, but it's really minor part of the exposure that some of our customers have. We're thinking positive areas, by the way, but not in Egypt for sure. Dan, you want to take the first one on SeaTitan and give an update where we're at?
If you look backwards, Jesse, I mean we announced a ways-back development agreement where there is U.S. Department of Commerce money to help develop some of the underlying technologies. Since that, we've invested our own money to continue the development of the product, both the generator itself, the subcomponents for that generator and the turbine design. So our business model will remain consistent with which is to put a partner in the business of making that turbine. And that's kind of the next logical step here is to involve a partner in the continued development of the product, the erection of the first turbine and get underway with the business that will be SeaTitan.
Our next question comes from Benjamin Kallo from Baird.
Benjamin Kallo - Stanford Group
As your turbines get bigger, how does your margin profile change as you're selling for bigger turbines?
Yes, Ben this is Dave Henry. As we said in the past, we're not expecting any big margin difference between 3 megawatt and the 5 megawatt and what we’re currently generating on the 1.5. I mean it really all depends on the really on the pricing that we will negotiate going forward. 3 megawatt, the volumes are still fairly low, but we would negotiate a new contract, as Greg mentioned in his remarks, in the next three to nine months.
And by the way, I think part of that question at least what I think of there is part of our objective is to continue to take more dollars per megawatt for every turbine going forward. So not only do we see increasing our market share and what percentage of the wind turbines that we're inside of but taking more dollars per megawatt for those wind turbines. That's part of our growth strategy, of course.
We will go to Jim Ricchiuti from Needham & Company.
James Ricchiuti - Needham & Company, LLC
Just on the superconductors side of the business. It looks like you had the lowest level of revenue in this area, at least that I can recall, and it seems they were in counter to the backlog that you've talked about. So maybe you could just help us understand when you see that starting to pick up a little bit?
Jim, this is Dan McGahn. What we're really seeing is this transition more to commercial. I mean we announced what we're doing in Korea with that order. We've talked about the revenues there starting in 2012. We're at the point here in 2010 going into 2011 where we're going to be winding down some of the projects, some of the projects we're going to continue. So we're really in a transition phase from the government-sponsored projects that we've had to really what we've been talking about for some time now which is the utilities looking to specifically adopt the technology, starting with Asia Pacific and continuing again along the lines in Europe, and we have visibility in America as well.
And that does concludes today's Q&A session. At this time, we would like to turn the call back over to Mr. Greg Yurek for closing comments.
Well, thank you, Alicia. I want to thank all of you for participating on our earnings call this morning. We had another excellent quarter to report to you today, and we expect to end fiscal 2010 in strong fashion by increasing both revenues and earnings year-over-year to new record levels: 38% growth in revenue year-over-year at the mid range; 100% growth in earnings per share at the mid range as well. As far as the future beyond this fiscal year is concerned, the game is afoot. We're very excited both our near- and longer-term growth plans, and we believe we have delineated the pathway for our company to accelerate achievement of our next big goal and that's the goal of $1 billion in revenues with an excess of 20% operating margins. So our expectation is that we can achieve this next big goal in four fiscal years or less. We look forward to reporting back to you in our May earnings call and to go into more details with you at our Analyst Day after earnings in May. In the meantime, enjoy the Super Bowl this Sunday. Take care. Bye.
That does conclude today's conference. We thank you for your participation. You may now disconnect.
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