Maxwell Technologies' (MXWL) CEO Franz Fink on Q4 2015 Results - Earnings Call Transcript

| About: Maxwell Technologies, (MXWL)

Start Time: 17:00

End Time: 17:54

Maxwell Technologies, Inc. (NASDAQ:MXWL)

Q4 2015 Earnings Conference Call

February 16, 2016, 17:00 PM ET

Executives

Franz Fink - President and CEO

David Lyle - SVP, CFO, Treasurer and Secretary

Amy Wakeham - IR

Analysts

Noah Kaye - Oppenheimer & Co.

Alexander Potter - Piper Jaffray & Co.

Jeff Osborne - Cowen & Co.

Operator

Good day, everyone, and welcome to today’s Maxwell Technologies’ Fourth Quarter 2015 Conference Call. At this time, all participants are in a listen-only mode. Late, you will have the opportunity to ask questions during a Q&A session. [Operator Instructions]. Please note today’s call is being recorded, and I will be standing by should you need any assistance.

It is now my pleasure to turn the conference over to Amy Wakeham. Please go ahead.

Amy Wakeham

Thank you. Good afternoon, everyone. Thanks for joining us and welcome to Maxwell’s fourth quarter 2015 conference call. This call is being webcast live and together with the earnings release are available on the Investor Relations section of our corporate Web site.

The results and data we discuss today reflect the consolidated results of Maxwell Technologies. During our call, we will discuss some non-GAAP measures. For a reconciliation of these non-GAAP measures to the most directly comparable GAAP measures, please see the notes to the financial statements and today’s earnings release. Statements about expected future events and financial results are forward-looking and subject to risks and uncertainties. Our actual results may differ. Please refer to the risk factors detailed in our SEC filings and today’s earnings release for further discussion. For anyone listening to a taped or webcast replay or reviewing a written transcript of this conference call, please note that all information presented is current only as of today’s date, February 16, 2016. The company disclaims any duty or obligation to update any forward-looking information whether as a result of new information, future events or otherwise.

On the call today to discuss our fourth quarter results are Dr. Franz Fink, Maxwell’s President and Chief Executive Officer; and David Lyle, Maxwell’s Chief Financial Officer. Following our prepared remarks, the call operator will come back on the line for the Q&A portion of the call.

I’d now like to turn the call over to Franz.

Franz Fink

Welcome and thank you for joining us this afternoon. On today’s call, we will review our fourth quarter 2015 financial performance, provide our outlook for the first quarter and provide an update on our business and market.

Starting with our fourth quarter results, I’m pleased to share that we achieved revenue of $49.8 million at the top end of our guidance range and an 11% sequential increase primarily driven by continued demand for our ultracapacitors in the China hybrid bus market. We delivered another quarter of positive non-GAAP net income and Dave will discuss our detailed financial results as well as our first quarter 2016 outlook later in the call.

As we look at our business, the recent subsidy changes in the China bus market are creating as expected some revenue challenges for us in the short term. At the same time, we have made great progress strengthening our business foundation over the last year and we are well positioned to manage through this near-term challenge.

With regard to the mid and long-term prospects for Maxwell, I’m very pleased with the progress we are making in optimizing our product portfolio and diversifying our revenue base, and I believe that we have only just begun to see the positive results of our efforts to transition our business with sustainable higher growth opportunities.

Furthermore, our innovation engines begin to yield results as evidenced by the announcement of our leading edge 3-volt ultracapacitor product earlier today, and we plan to announce more exciting new products and technology advancements during 2016. I’d now like to give an update on our longer-term outlook and how we see our business growing over the next five years.

The served available market for all Maxwell products is large and growing. We have established a baseline foundation of revenue in the transportation and grid markets primarily in wind, high voltage, start-stopping automotive, anything involving long-term revenue base from China bus.

These areas will support our business as we progress forward and diversifies further in the areas of rail and truck in the midterm and with new automotive, grid energy storage and additional rail applications over the longer term. As we have shared with you before, the future of the auto industry is in vehicle electrification or eMobility with an electric or hybrid vehicle.

As a result of the progress we have made towards our previously outlined 2020 goals as well as innovation of technology advancements that we have made to address the energy and power delivery challenges in electric or hybrid vehicles, we believe that our served available market could significantly increase beyond 2020.

Let me now update you on the progress we are making in each of our addressable markets. In China bus, as the bus market evolves throughout 2015, we introduced new products and intensified our customer focus. As a result, we won new customers and leading market share in the China bus market in the fourth quarter compared to the fourth quarter of last year.

Looking out to 2016, in the context of the new subsidy changes that went into effect at the beginning of the year, our China bus customers are carefully managing their inventory as the current subsidy program is less favorable than previous subsidies with respect to plug-in hybrids that use existing ultracapacitor solutions.

In spite of the recent policy changes, pricing pressure and other headwinds, we remain confident that as we continue to introduce new innovative and highly optimized ultracapacitor-based solutions, there is a solid baseline business for ultracapacitors in the China hybrid bus market in geographies with extreme weather, immature charging infrastructure and less well-kept roads, where shock and vibration resistance is critical.

In automotive, we are very excited about our progress for a number of reasons. First of all, we are building on our legacy PSA start-stop application with our Cadillac design win. Customer feedback regarding the fuel less [ph] start-stop feature powered by Maxwell ultracapacitors and now a standard feature in Cadillac ATS and CTS sedans has been very positive.

We continue to believe that the Cadillac design win will generate revenue in the low single digit millions of dollars for 2016. However, the user experience feedback further validates ultracapacitors are the best solution for this application and we are now working closely with our partner in the development of next-generation start-stop in advanced model hybrid automotive solutions.

Secondly, we previously disclosed that we had won a new design for a different application and we were pleased to see the production launch of this application in a 2016 model year luxury car platform during the quarter. This new application for ultracapacitors is empowering active suspension systems.

While the more common adaptive suspension varies shock absorber from this changing road of dynamic conditions, active suspension powered by ultracapacitors that raise and lowers the shocks independently at each wheel, which significantly enhances the driving experience.

While this new program initially starts with a lower volume luxury complex from 2016, we are very excited about the prospect for this new application as it clearly affirms our differentiated ultracapacitor technology for a variety of applications. We will share which outlet from this design when we are able to do so.

Importantly, however, just some optimization opportunities like active suspension systems in addition to vehicle electrification applications underscore our confidence that Maxwell is poised to realize significant and compelling opportunities in the automotive space.

We are also making significant product innovation progress in other areas for the auto market. Our new internal focus on innovation and our partnership with Corning has resulted in new material science and intellectual property that enhances the performance of our electro-technology as well as new IP that will enable us to further bolster the ability of our ultracapacitors to withstand severe temperatures. Both of these breakthroughs has the potential to address various application opportunities in the automotive market as well as in other markets for ultracapacitors.

Lastly, we see new opportunities to apply our proprietary dry electrode manufacturing process in new applications leveraging our intellectual property and trade secrets. Over the last year, we have further advanced innovations with our proprietary dry electrode technology that combined with a trend to accelerate vehicle electrification has opened up additional growth opportunities for Maxwell.

Our unique and proprietary technology has the potential to significantly improve our system suppliers and auto OEMs develop new engine and drive train solutions ideally suited for the challenging requirements of electric and hybrid electric vehicles. We believe that our fundamental dry electrode technology enables the development of higher performance energy storage solutions with longer lifetime and at significantly lower costs.

We have still the very strong patent portfolio to protect our technology and processes for many years to come. Also, we can see more at this point, we hope that we can share much more about this opportunity with you later in this year.

Turning to the grid energy storage market, pilot wayside rail installations incorporating Maxwell ultracapacitors continue to demonstrate high economic value by reducing station electricity consumption via the recapture of train breaking energy, stabilizing rail system voltage and in some cases by also supporting battery energy storage to provide revenue-generating services to the grid.

Although market conditions for profitably providing revenue-generating services are dynamic and evolving, there is a consistent drive for improved efficiency and reduced energy consumption in the number of rail stations that could benefit from our technology continues to grow. Working with our partners, we are actively pursuing new revenue growth opportunities worldwide.

Our demonstration projects to exceed the global market are progressing well. As a reminder, we have a microgrid stabilization project with Freqcon in Ireland, a microgrid energy storage project with [indiscernible] and last month we announced the first megawatt-scale, ultracapacitor-based wind farm grid firming and battery-support project in the world with Guodian in China.

As we look to rail, we expect this market to be our largest year-over-year revenue growth driver. Our partnership with CRRC-SRI to develop solutions uniquely designed to address the rapidly growing Chinese rail market is progressing ahead of schedule. Our collaboration has resulted in the cost efficient energy storage solution with the power characteristics of an ultracapacitor combined with enhanced energy storage capacity.

We believe this will deliver revenue growth for Maxwell beginning this year and with continued growth in 2017 and beyond. We are also excited about the prospect of this partnership to open up new revenue growth opportunities in adjacent markets for Maxwell in the future. We should be able to share more about the progress we are making later this year.

Turning to truck, in addition to our ongoing partnerships with Kenworth and Peterbilt, we remain on track to complete five-season testing with a fair nature [ph] OEM by the end of Q1 2016. We should see further momentum of ESM orders generating by this design win after the July 2016 factory options catalog is published. However, we believe this will only contribute single digit millions of dollars in revenue for us in 2016, and as stated previously has the potential to become more meaningful to top line revenue in 2017.

Lastly, our high-voltage and new product lines continue to be material revenue contributors to our business. Regarding our high-voltage products, we expect each of these to continue to contribute material revenue to the business. We believe that recent product offerings as well as the market need to upgrade an aging global infrastructure will provide revenue growth opportunities in the long term.

We also expect the wind market to remain one of our most material revenue contributors and expect revenue growth in 2016 as wind energy installations expand globally into adoption of our ultracapacitors to effectively manage late pitch control growth. As we move out of the seasonally lower winter months, we expect growth as we enter into a seasonally strong second quarter. We also expect additional growth opportunities in 2016 and beyond from new design wins.

Before I hand it over to Dave, I want to update you on the company’s latest ultracapacitor product and technology innovation that we announced earlier today. The newest addition to our K2 family is a 3-volt, 3,000-farad ultracapacitor cell that delivers more than 30% more power than our previous generations. With this product, our customers has the flexibility to either increase available power in energy in the same volume or significantly cost optimize their system designs requiring the same power and energy with fewer cells or modules.

I am extremely pleased that the focus on innovation initiated 18 months ago is gaining momentum and I am confident that we will be able to share more leading edge innovative product announcements as we move through this year. Our concerted effort to advance our diversification strategy and the transition of our business to higher growth opportunities is progressing well, and in some cases ahead of plan. We are confident in new innovation and partnerships we are bringing to the market, we will deliver significant value for our customers and our shareholders in the years ahead.

I would now like to turn the call over to Dave to discuss our financial results. Dave?

David Lyle

Thanks, Franz. Good afternoon, everyone. Before I go through our fourth quarter results and Q1 outlook, I want to share a couple of perspectives with you. First, on our Q2 2015 earnings call, we announced the global restructuring to better align our cost structure with near-term revenue challenges and drive deeper engineering and operational efficiencies throughout the organization.

Our current financial results are demonstrating the continued positive impact of these actions. The consolidation of our two U.S. manufacturing facilities remains on track to be complete by the end of the first quarter. Additionally, our process to sell our non-strategic microelectronics product line has progressed well and we are cautiously optimistic that we will be in a position to announce the transaction in the near future.

And second, our balance sheet is solid with $25 million in cash and no debt. We believe the cash we have on the balance sheet today plus the cash expected from the sale of our microelectronics product line as well as an unused $25 million working capital bank line of credit gives us the flexibility to continue to fund our long-term capital requirements as well as our ongoing growth initiatives.

Now I’d like to focus on our Q4 2015 results. Fourth quarter revenue was $49.8 million, an 11% sequential increase and at the top end of our guidance range of $46 million to $50 million. The majority of sequential growth came from higher than expected demand for our ultracapacitors in the China bus market, somewhat offset by a decrease in the wind market due to seasonality as well as lower high-voltage revenue driven by reduced government spending to a lesser degree unfavorable Swiss foreign exchange rate challenged the top line.

Ultracapacitor revenue increased sequentially from $31.8 million to $37.3 million, high-voltage revenue decreased sequentially from $10.3 million to $8.9 million and microelectronics revenue increased sequentially from $3 million to $3.6 million.

Non-GAAP gross margin in Q4 was 29.1%, a decline from 32.3% in Q3 and below our guidance range of 31% to 33%. Lower sequential gross margins were a result of product mix shift towards ultracapacitors sold into the China bus market. Gross margin would have landed within our guidance range if not for several one-time charges. Our Q4 non-GAAP gross margin excluded about $110,000 of stock-based compensation expense and about $130,000 of accelerated equipment depreciation expense.

Non-GAAP operating expense for Q4 was $13.2 million, better than in Q3 and below our guidance of $13.5 million. The efforts we have taken to reduce our overall operating costs have allowed us to align our cost structure more appropriately with the overall business. Q4 non-GAAP operating expense excluded $940,000 of stock-based compensation expense, $1.2 million associated with the ongoing SEC and FCPA investigations, $250,000 in shareholder proxy advisement fees and $120,000 in restructuring-related charges.

Other expense was about $210,000 for the quarter, Q4 adjusted EBITDA was about $3.9 million and unadjusted EBITDA was $1.1 million. Q4 tax expense was about $440,000. Q4 non-GAAP net income was about $590,000 resulting in earnings per share of $0.02 on a basic share count of about 32 million shares. GAAP net loss for the quarter was about $2.2 million and GAAP loss per share was $0.07. Our cash balance was about $25 million, approximately flat with Q3. DSOs for the fourth quarter came in at 67 days and inventory turns came in at about 3.6 times.

Now, I’d like to provide guidance for the first quarter of 2016. In Q1, we expect Maxwell’s top line revenue to be in the range of $34 million to $36 million similar to our first quarter 2015 revenue of $34.7 million with ultracapacitor revenues also at similar levels at just above $20 million. The sequential decline from Q4 reflects typical seasonal softness in the China bus market.

We expect non-GAAP gross margins for Q1 to be between 30% and 32% depending on product mix. This gross margin range is at similar levels with Q1 2015 when non-GAAP gross margin was 30.4%. We anticipate excluding from Q1 non-GAAP gross margin about $150,000 in stock-based compensation expense and about $230,000 in restructuring-related charges.

We expect Q1 non-GAAP operating expense to be approximately $13.5 million, a 2% increase from Q4 primarily due to payroll tax resets. This favorably compares to Q1 of 2015 non-GAAP operating expense of $18.2 million as we benefit from our cost reduction efforts. We estimate our Q1 non-GAAP operating expense will exclude about $1.4 million of stock-based compensation expense, $700,000 in restructuring-related costs and $250,000 associated with the ongoing SEC and FCPA investigations.

We expect our tax expense in Q1 to be about $600,000. At the midpoint of guidance, Q1 adjusted EBITDA would be about breakeven. At the midpoint of guidance, we expect non-GAAP loss per share of $0.10 based on a basic share count of 32 million shares. GAAP loss per share at the midpoint of guidance is expected to be $0.19. With regard to our cash balance at the end of the first quarter, we expect cash to remain relatively unchanged depending on end of quarter working capital changes.

Lastly, I’d like to provide more color regarding our expectations for 2016. As mentioned earlier, we expect new China bus subsidy changes that went into effect on January 1 of this year to put a pressure on revenue in 2016. Even as the macro China bus market changes, we continue to maintain and grow our market share within the large plug-in hybrid bus market, albeit within a smaller served available market at lower ASPs.

Additionally, we believe we will see similar demand patterns in the bus market as we did in 2015 with the majority of revenue backend loaded. We continue to make progress in our emerging ultracapacitor market opportunities in 2016 and expect to see growth in markets such as rail, wind and potentially a small increase from auto. However, it is not yet clear if growth from these three markets will offset the expected pressure on revenue in the China hybrid bus market in 2016.

More specifically, we believe growth in rail through our partnership with China’s SRI in 2016 and beyond is looking very promising. In addition, we have several other ultracapacitor designs for onboard applications such as our recent announcement with CAF in different geographies that will continue generating small revenue streams.

We believe wind will grow modestly in 2016 as wind installations with current partners expand globally and newly won designs in multiple geographies contribute revenue and help offset some price erosion. We expect a stable automotive revenue stream as revenue ramps modestly from our design wins in Cadillac CTS and ATS models as well as in new albeit smaller design wins for active suspension.

We expect truck to provide growth but likely at immaterial levels in 2016, as OEMs may begin to shift in more material volumes going into the latter part of the year and into 2017. We expect grid energy storage revenue will remain relatively small in the hundreds of thousands of dollars in 2016. However, we are increasingly optimistic that our current demonstration projects will yield long term and growing design wins over time.

With regard to high voltage, we believe that global reductions in government spending and the strong U.S. dollar will limit revenue growth opportunities in 2016. However, we believe that high voltage will continue to be a material revenue contributor for the company.

With regard to other financial variables, we expect non-GAAP gross margin for 2016 to be in the low 30% range depending on product mix and expect non-GAAP operating expenses to remain in the $13 million to $14 million per quarter range.

All that being said, our business is much stronger and more sustainable today thanks to our efforts to align costs more appropriately and to operate our business more efficiently in many different areas.

I’d like to now turn the call back over to Franz for closing comments.

Franz Fink

Thanks, Dave. The steps we have taken to diversify our target markets have positioned us well to advance our business. We are excited about our long-term prospects and the many market opportunities we are actively pursuing. Additionally, the relationships we have build with our customers as well as current and future business partners will enable us to develop and deliver many new and leading edge products and solutions to the transportation and grid markets.

Lastly, as discussed earlier, our innovation engine is gaining momentum and we expect a number of new technology and product announcements as we move throughout the year. Our strong innovation pipeline will further differentiate Maxwell and position us to aggressively pursue the many growth opportunities ahead of us.

I’d like to thank our employees for their dedication to our business as we position for continued revenue growth. I’m excited about the opportunities ahead and look forward to working with the talented team here throughout 2016, as we execute our strategy with the ultimate goal of maximizing value for our shareholders.

Operator, we are now ready to begin the question-and-answer portion of our call.

Question-and-Answer Session

Operator

Certainly. [Operator Instructions]. Our first question comes from Noah Kaye with Oppenheimer & Co.

Noah Kaye

Thank you very much. So maybe we can start with an area that you talked about a little bit near the end, Franz, of your outlook on the markets and that’s microgrids and energy storage. We were at DistribuTECH and it seems like basically all the major integrators are now marketing microgrid offerings. Obviously, a lot of development on the grid scale energy storage side as well. With this win in China for a megawatt-sized integration at wind turbine with some of the microgrid projects you had, it seems like you’re doing multiple projects in this space. I guess the question is, at what point do you see these kinds of efforts turning into, say, a more consistent revenue stream? When does this become less of a one-off project business and more of something that you can expect to see some real growth? And how does that happen? What’s the route to market there?

Franz Fink

Thanks. A very good question. As you pointed out, we have quite a few of them with different implementations addressing various aspects of distributing energy coming from solar farms, wind farms, and of course effectively distributing it throughout the grid. And in that context, I would like first to start with what is the next few steps. All those demonstrations are pretty much focused on collecting data, making sure that really issues like grid firming, frequency regulations, fast response time really has been taken care of by the combination of, of course energy storage, let’s call it battery type of solution combined with our ultracapacitors that provide significant capability, particularly fast response time but help with the grid firming as well as the frequency regulations and others. And as we go through the next six months, we expect significant data collection and of course while it’s difficult to say, several of our customers are taking this data and then at the backend of this, it might be early as end of this year as we go into the first half of next year to really make a decision to move forward with some of those solutions to really market them as more mainstream. In that context, I would like to point out and this is really [indiscernible] while someone might look at the grid market to be a 10 years out type of revenue opportunity, we believe that while this is not short term, it very well could be a midterm one that starts to accelerate in the mid to let’s say five-year horizon type of term and really start to accelerate from midterm and really contribute meaningful revenue still within our five-year horizon. That’s how we look at it, Noah.

Noah Kaye

Great. Thank you very much. Turning to the auto side, I wonder if you could kind of give us an update on, let’s call it the major technology hurdles that you’re working on? You just put this 3-volt announcement in context in terms of what you think it will mean for your work penetrating the auto space. And then maybe you could give us an update on when you expect to be able to produce a cell that’s tolerant of 85 degree Celsius temperature. Thanks.

Franz Fink

Yes. Let me start with an announcement we made in more general terms. As we had shared previously, as far as automotive application is concerned, of course energy, power, volumetric, temperature, and of course costs on durations all play here a very important role. The 3-volt capability more in general is very significant with respect to of course having a better performance solution but as I’ve always point out to use less cells or less modules to significantly cost [indiscernible]. This paired with other volumetric architectural considerations and particularly the higher temperature is very, very important to get into core applications like, for example, under the hood in automotive. And of course from a cost reduction standpoint and other ultra-low cost volumetric considerations really even into further core applications. In that context, let me address 85 degree. We are making very good progress. I don’t want to share too much in the context of competitors’ aspects but I am very, very confident that the team is making on a broad number of aspects very good progress. And while I don’t want to predict here on the call when this will be available, I am cautiously optimistic that it’s not out in the number of years to come but over the more near to midterm horizon. Now, additionally I would like to point out something that I am very excited about and it’s the recent events we talked end of the last year has clearly made all auto system manufacturers as well as OEMs to look into what they need to do to meet emissions regulations. And clearly that has led to an effort to accelerate the electrification in vehicles. And in that context, ultra-low cost ultracapacitors are a very, very excellent complement in applications where batteries alone might not be able to provide energy in the required power where ultracapacitors complement to protect batteries and extend the lifetime. But we are also more recently through advancements in our dry electrode we have seen increased interest from system suppliers and also OEMs to look into on how they can really further innovate and further advance energy storage that is obviously a key core technology in future electric hybrid vehicles. And while we are here in the early stages of talking and working with some of the key players in that industry, I’m [indiscernible] of getting increasingly confident with not just ultracapacitors as such but also the underlying technology of a dry electrode and really help to develop solutions that provide higher energy, longer lifetime and at significantly lower cost, which is material. As we look at 2020 and beyond where – as we look at market projections of the number of vehicles where electric and electric hybrid vehicles start to become an increasingly meaningful percentage of the overall automotive market.

Noah Kaye

Very interesting. Thank you, Franz. Maybe a quick question for Dave and then I’ll jump back. Great progress cutting the OpEx run rate, positive operating cash flow for '15 and the balance sheet situation markedly improved. I guess the only question would be with some of these new programs ramping up both truck OEM, some new auto programs as well as potentially new projects with the China rail partner, how comfortable are you with the cushion that you’ve got in terms of working capital needs?

David Lyle

I feel from a working capital perspective we have not only enough cash on the balance sheet but we have our unused $25 million credit line to deal with fluctuations for working capital needs. So, I think we’re pretty well covered there.

Noah Kaye

Great. Thank you very much.

David Lyle

Thanks.

Operator

Thank you. We’ll go next to Alex Potter with Piper Jaffray. Please go ahead.

Alexander Potter

Hi, guys. I guess first of all was wondering if you could give an update on your baseline automotive contract there that you had with PSA? Obviously, you’re layering in some incremental revenue in 2016 with Cadillac and the suspension project that you’re talking about there but not necessarily explicitly guiding automotive growth. So I’m just wondering if underlying that you are implicitly saying that the PSA relationship might not generate the same level of revenue that used to?

Franz Fink

No, Alex. How we should look at this is in general that the PSA program, as you know, has been launched back in 2010. After five years you clearly have not just interim platform changes but significant platform changes. And like we said in the last call, we know some of it but we would be clearly misleading saying we know every single platform or car that anyone of our customers in this case feel they would launch. So that’s one of obviously unknowns but after five years, yes, there very well might be some platform changes. Now additionally, as you know, this goes both and together as well as the other platforms. With the recent events, it’s also a little bit more an unknown on what percentage of diesel cars versus gasoline cars in those new platforms will be successful to what extent. And again, in that context we are just here a little bit more careful that where are both platforms going in view of that it is five years since they are launched. Some of the recent events gasoline versus diesel and additionally that the current platforms that we talked about start in a premium segment and start as a smaller volume in nature. And from that perspective don’t have a sustaining impact on the top line like other top platform would have.

Alexander Potter

Okay, sure, that makes sense. Was wondering also if you could chat a little bit about gross margins, specifically in the quarter? You said that you would have been in line with gross margin guidance, you mentioned mix obviously but you also said that there were some charges that were unique to the quarter that drove you below the gross margin guidance. Was just wondering if you could I guess illuminate what those were and comment regarding whether they might be repeated?

David Lyle

Sure, I’ll take that one. In Q4 we had guided 31 to 33, we came in about 200 basis points short of the low end of that range, which is really a cost to goods sold difference of about $1 million. So there’s three items that I would categorize as nonstandard and one of them was a customer bankruptcy where we had already shipped product, so we had a COG set for it. One was a warranty reserve related to a cosmetic defect we had in our high-voltage business where historically going back decades, it’s highly unusual, so we don’t expect that sort of thing to happen again. And third, there was a requalification that we had paid for a customer that we actually won back. It was a requirement for us to go do that. So there was a little COGs hit totaling about $1 million. We look at those nonstandard and therefore we see the gross margins going back even in Q1 into the guidance range of 30 to 32.

Alexander Potter

Okay, excellent. That’s very helpful. I appreciate the color there. And then I guess lastly on the engine start module, it sounds like obviously you’re still working on that third OEM. How has the feedback been? What’s the uptake been for Kenworth and Peterbilt? I guess any commentary you can provide on how the product is being received by customers, I guess growth within those two existing customers and any additional commentary on that product.

Franz Fink

Yes. Alex, we are indeed making good progress with the third OEM and expect this to be completed towards end of this quarter. Feedback just like we already shared last time is positive. And in that context we have increased interest in [indiscernible] engine start module. We have fleet starting to order quantities as factory option – by the way even fleet, so it’s an aftermarket channel in other words. So people in the channel we trained and who are promoting it and in fleets that we are not necessary having at this point in time directly touched. Now having said that, why are we also cautious here in the short term, as we have shared in the last few calls, it’s a fairly complex fragmented market and fleets do their own testing. In other words, some of those orders are at this point in time smaller in quantities because fleets are ordering a new truck, 10 new trucks, you name it, whatever the number is, to really make sure that they go to their old qualification cycle so that that could be anywhere from six months to – some are more into higher range of nine plus months. And this really is a benefit to their own testing. Obviously, it would accelerate. And this combined with the third OEM we believe while it’s in the low single digit millions for this year, it could be more meaningful next year. So it’s just working the channels and addressing the retail as well as the fleet to make sure that as it becomes available under this two, then with three that fleet is starting to order.

Alexander Potter

Okay, very good. Thanks a lot guys.

Operator

Thank you. [Operator Instructions]. We’ll go next to Jeff Osborne with Cowen & Co. Please go ahead.

Jeff Osborne

Good afternoon, and thanks for all the details so far. Franz, I was wondering if you can just touch on the high-voltage segment, you mentioned subsidy changes and geographic challenges. Can you just kind of walkthrough what you’re seeing out there, more specifically in that market?

Franz Fink

Yes, in that market I think it’s a business that is very, very – fairly equally distributed globally but extremely strong in China. And it has been particularly more recent economic events and impact in China that – in addition not entirely but primarily in the little bit impact on more recent FX that has impacted the business. However, as we just have heard as late as for the last few days, China is looking into – as they are ruling out a new five years plan to stimulate the business. So again, we are working with our customers to make sure that we have a good understanding of how this is going to evolve. Nevertheless, we believe that there is ultimately a very solid business and so much to long-term demand to upgrade in some regions and aging infrastructure. And of course like in China to build out an infrastructure as the need for energy will double here over the next 10, 15 years.

Jeff Osborne

Got it. Thanks for that. And then just staying in China, can you just touch on what your sales folks are seeing or what your conversations are with the bus industry about the success of what’s displacing you with this new subsidy to fuel cell busses, all electric busses, plug-in hybrid electric busses, what’s been the success as those have ramped up because of subsidy as you mentioned took effect in January but has been well telegraphed for quite some time?

Franz Fink

Yes, so in China there is two different type of customers, they are the leaders. If you attended our – as it’s communicated some time, they are prepared and they are first out with the new solutions even if they might not be technically evaluated to the point where someone necessary would expect them to be. And then there’s a lot of followers. And so what we have been seeing here towards end of last year that people really geared up to get all the subsidy on the current type of old electric vehicle and plug-in hybrid busses. And most of the customers were really focused on that one. And really towards the beginning of the year, they started to look into, okay, with the new subsidy, what do we need to do to have cost efficient, reliable and acceptable quality solutions. And in that context, we are working with them on optimizing our solutions and we expect those solutions to be introduced as we go through the year. Again, in summary of this we expect a softer first half of the year like we already projected late last year. And at the same time though we believe that there will be a continued baseline business because it clearly also is that – as subsidy goes down looking at reliability of the solution, charging infrastructure, lifetime economical consideration that there is clearly a place for plug-in hybrid and there ultimately might even be a place for an optimized ultracapacitor solution that goes in line with batteries ultimately into electric vehicles. But again, I think we have said we are working through this and of course at the end of the day, as we all know, in cost consideration in line with the subsidy and reaping the benefits of subsidy in line with certain profitability is number one criteria in China. And in that context, it will be slower in the first half like last where we expect it to be backend loaded. But as Dave pointed out whether the growth in other markets came in 2016 make up for that change, we don’t have the visibility at this point in time.

Jeff Osborne

Understand. I appreciate it, guys. Thanks so much.

David Lyle

Thanks.

Operator

Thank you. We’ll go next to George Line with Energy Knowledge [ph]. Please go ahead.

Unidentified Analyst

Hello and congratulations on the strong quarter and the 3-volt sale. I have a question about the pitch control application. Many of the pitch control providers offer battery ultra-class [ph] and even hydraulic solutions in some case. And I was wondering if you’re seeing a greater level of penetration of the ultracapacitor solution in terms of market share in the pitch control market?

Franz Fink

George, very good question. Indeed there is a market split between the three, however, we believe that the market share of ultracapacitors is very, very substantial. It’s difficult to give an exact number but it’s in the 40% to 50% range and it’s growing. And because they have a long lifetime and it reduces significant maintenance costs, it’s putting even pressure on the battery base solutions because obviously it’s easily to replace and in doing so it increases significant with the maintenance costs. So while from a market standpoint, a market that is only moderately growing, we think it’s continued to grow as more wind farms will install here increasing gigawatt hours around the world, so we think it will be very positive for us.

Unidentified Analyst

Okay. Thank you.

Operator

Thank you. It appears we’ve run out of time for questions on today’s conference. This does conclude today’s program. We appreciate your participation. You may disconnect at any time, and have a great day.

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