Energy Conversion Devices F2Q08 (Qtr End 12/31/2007) Earnings Call Transcript

Energy Conversion Devices Inc. (ENER)

F2Q08 (Qtr End 12/31/2007) Earnings Call

February 7, 2008 10:00 am ET

Executives

Ghazaleh Koefod - IR

Mark Morelli - President and CEO

Sanjeev Kumar - VP and CFO

Analysts

Sanjay Shrestha - Lazard Capital Markets

Mark Manley - Natixis

Jesse Pichel - Piper Jaffrey

Rob Stone - Cowen & Company

Colin Rusch - Broadpoint Capital

Steve O'Rourke - Deutsche Bank

Adam Hinckley - Oppenheimer

Paul Clegg - Jefferies & Company

Michael Horwitz - Pacific Growth Equities

Jagadish - UBS

Pearce Hammond - Simmons & Company International

Patrick Forkin - Tejas Securities

Michael Molnar - Goldman Sachs

Ronan Wolfsdorf with Cowen & Company

Clint Coghill - Coghill Capital Management

Presentation

Operator

Good morning. Welcome to the Energy Conversion Devices conference call to discuss the financial results of the company's fiscal 2008 second quarter ended December 31, 2007. As a reminder, today's call is being recorded. All lines are currently in a listen-only mode. Later in the call, we will conduct a question-and-answer period. (Operator Instructions)

I would now like to turn the call over to Ms. Ghazaleh Koefod, ECD Investor Relations. Please go ahead.

Ghazaleh Koefod

Thank you, Kimberly. Good morning and welcome to our call. The members of ECD's management team participating today include Mark Morelli, our new President and CEO and Sanjeev Kumar, ECD's Vice President and CFO.

This morning's presentation will also include the use of several slides, which we will be included in our webcast. We will be controlling the advancement of the slides and providing commentary on each, as we make our prepared comments. A downloadable copy of the slide penetration is available on our website. Also, today's call will be archived on our website.

A special note for those participating via conference call today, we ask that you please select the no audio, slides-only link when prompted during your webcast registration. This will allow conference call participants to view slides in sync with the audio.

As is our custom, I would like to remind you that the following discussion may contain forward-looking statements within the meaning of SEC's Safe Harbor provision. Such statements are based on assumptions, which ECD, as of the date of this call, believes to be reasonable and appropriate. We caution you that the facts and conditions that may exist in the future could vary materially from those upon, which the statements were based. Please review the risk factors identified in the ECD filings with the SEC, including our most recent 10-Q, which will be filed later today.

And now I'd like to introduce Mark Morelli. Mark?

Mark Morelli

Thank you, Ghazaleh. Good morning and thank you for joining us on today's call. In the second quarter, we continue to transform ECD from an R&D company to a successful, profitable solar company. During our last earnings call in November, we introduced the three short-term initiatives. I am happy to report we have made excellent progress on each initiative.

First, we are selling more solar laminates as evidenced from our higher than forecast revenues and large scale contract announcements. Second, we continue to reposition the company in key solar markets worldwide for rooftop installations with an expanded management team and new marketing initiatives.

Thirdly, we've improved our ramp, which show higher than forecast gross margins. In Q2, production was up nearly 50% over Q1 and three-times our production during last year second quarter. We solved many of the issue that affected production at Auburn Hills last quarter and Greenville 1A, it's ramping ahead of schedule. We also begin ramping Greenville 1B on schedule in early January.

Before I review our solar operations in greater detail, let me address one topic that I know many of you would like to hear about, Cobasys. Here is where we are right now. We previously announced that Chevron initiated an arbitration proceeding and we are vigorously defending our position. We still believe there is a better business model for Cobasys, but the members have not approved the budget and operating plan for this year. This places Cobasys at risk at a going concern, as we try to sort out these issues with Chevron.

We are continuing to communicate with Chevron, and we are in settlement discussions, but we remain confident of our position if the arbitration needs to continue. Unfortunately the arbitration does limit us about how much we can say with Cobasys at this time. So, I direct your conversations more towards our 10-Q for additional details.

Slide 4, underscores just how much of our growth is driven by our solar business, United Solar. We exceeded the top end of our guidance for both total revenues and for solar products sales. Total revenues for the second quarter grew by 20% from Q1 '08 and nearly 2.5 times higher than last year's second quarter. Approximately 90% of our revenues in the quarter come from sales in solar products, proving that our solar business is our engine of growth.

On slide 5, our strong sales growth confirms the UNI-SOLAR laminates meet the needs of the market. Our solar laminates require no rooftop penetrations, they generate more electricity in real-world conditions, are lightweight durable, and flexible, are ideal for building integrated applications, they're easy to install and removable and importantly require no polysilicon. As a result our UNI-SOLAR laminates are ideal for every rooftop under the sun.

Let me explain why rooftops are on a especially attractive target segment for us. First, many rooftops simply cannot support the additional weight of traditional glass based panels. Second, there is a lot of noise in the solar industry about energy density or who can produce the most power per square foot. But the reality is that not all the customers are looking to maximize our solar energy output, they just want to meet the electricity needs at a reasonable price. This is particularly true for large commercial buildings.

Based on survey data by the Department of Energy, about half of all commercial buildings have electrical power requirements they can be met by 5 watts per square foot for roof space. UNI-SOLAR laminates not only meet this requirement, they exceeded, producing about 5.8 watts per square foot today. This one target segment represents an opportunity for us of about 5 gigawatts by 2012.

We believe we can be the leading solar PV player in this core segment because UNI-SOLAR's differentiated value proposition meets the needs of the commercial rooftop market in ways that no other solar provider can.

Let me show you what makes it strong in the segment. Slide 6, shows that we are successfully building new sales channels that, serve our core target segment.

The bar on the left shows anticipated UNI-SOLAR revenues by channel for the first half of fiscal 2008. The bar on the right shows the same sales channels for the overall solar industry. While we sell to the traditional PV channel, we are also building new sales channels to optimize our go-to-market approach. We are seeing very strong momentum in the building materials channel as customers in this space have been quick to recognize the differentiated value proposition of UNI-SOLAR laminates that I just discussed.

By successfully matching up our value proposition with the right sales channels, we are carving out a distinct position in the market, where many solar products don't perform as well. Our ASPs held steady during the quarter, declining less than 3% from Q1 '08, nearly all of the change was due to a shift in our product mix. Our framed products carried higher ASPs, but lower gross margins. For the rest of the fiscal year, we expect ASPs to be relatively flat.

Slide 7, shows our revenues by geographic region. Please note that bar in the left represents all 12 months of fiscal 2007, where the bar on the right is just the first 6 months of fiscal 2008. The key take away from this slide, is that our sales becoming increasingly more diversified as we enter new target markets particularly in Asia, which already represents 15% of our sales this year.

But even within Europe, which look relatively constant at 52% of sales, there are significant changes taking place. For example in 2007 more then two-thirds of our European revenues were concentrated in Germany. In that first 6 months of fiscal 2008, our sales of Germany were less than 40% of the total. The difference comes from our success selling more building applied and building integrated solutions in other key target markets like Italy and France.

Let me briefly discuss two additional points relate to our global diversification. First, both bars include minimum revenues from Spain, which has been primarily a ground mounted market. However, looking ahead we expect to sell more in Spain as it begins to embrace building integrated solar solutions.

Secondly, this chart is some what different from our public filings. For accounting purposes, we required to report sales based on where the customer is located. This chart however allocates revenues based on the final geography of where the laminates are installed, which we believe is more accurately reflects our geographic diversification.

The combined effect of repositioning the company around commercial rooftops, establishing new channels and diversifying into new geographic market has driven strong demand for UNI-SOLAR laminates. As a result our sales pipeline is filling rapidly.

Slide 8, shows our current solar sales pipeline. The red dash lines represent, where the pipeline stood at the time of our first quarter conference call back in November. At that time, we had signed supply agreements for approximately 80% of our fiscal 2008 capacity and about half of fiscal 2009.

In just the past three months, we filled the last 20% of the 2008 pipeline and another 30% of the 2009 pipeline, which means, we now have supply agreements and purchase orders going about 80% of our fiscal 2009 capacity. We expect to fill the remainder of our fiscal 2009 volume in the near future. In fact, demand is so strong that we have flexibility chose, which customers we want to add to our long-term customer base. And also we are implementing take-or-pay contract, as you saw on our recent announcement.

Our challenge now is to manufacture enough [note] laminates to meet our growing order book. Let me discuss how we're improving our operations to do just that. Slide 9, shows two important metrics. The chart on the left shows the total amount of megawatts produced in the second quarter increased almost 50% versus the first quarter. The chart on the right track a reduction in ramp time.

Ramp time Greenville 1A is improving significantly shorter, that Auburn Hills 1 and 2 and were ahead at schedule there. Greenville is ramping faster than our Auburn Hills lines due mainly to the fact that we are already made substantial improvements to design and operations of these machines early on. For example, when we build Auburn Hills 2, we made over 30 major improvements from Auburn Hills 1 design.

Greenville 1 by comparison has fewer than 10 changes over our Auburn Hills 2. The result with Greenville 1 is a more proven system with a dramatically reduced ramp time. In other words our early investments of time and energy are paying off.

Slide 10, reviews our manufacturing expansion schedule, which remains on track. We expect to start fiscal 2009 with nameplate capacity of 148 megawatts. Due to the fact that we are ramping additional capacity, our actual production capacity for the fiscal year will be lower than the nameplate capacity at fiscal year end.

The red dotted line shows where we are today, Greenville 1A is ramping very well and 1B started on-schedule at the beginning of January. The faster ramp times, we are experiencing are the result of a number of operational improvements. Some of these changes include numerous production technology improvement, such as (inaudible) material inventory, lean manufacturing techniques, cross-functional teams and tracking of key metrics related quality, cost, delivery and safety.

Pre-training of Greenville operators produced a capable and motivated team on day one. Also the entire operations team has a higher sense of urgency to maximize production and quality. For the remainder of fiscal 2008, we remained focused on ramping our production in Greenville facilities and improving operations in Auburn Hills.

Looking ahead, slide 11 shows our plan to reduce our cost per watt from 257 at the end of the first quarter of 2008 to approximately $1.10 by the end of fiscal 2012. At that price, the cost to operate UNI-SOLAR system without any government incentives translates to an electricity cost of about $.08 to $0.10 per kilowatt hour, comparable to today's grid pricing.

Of course, as we drive the cost down for solar generated electricity, the cost of fossil fuel generated electricity continues to rise, driving rapid pricing conversions and increasing overall market demand for solar power.

We've already made significant progress in the second quarter, but it's important to remember that this is an ongoing initiative that will take place overtime. The savings will come from three main areas, each generate approximately a third of savings.

The first is material cost. Naturally, we are focusing a lot of attention on how we can reduce material cost. We are in the process of qualifying new suppliers for certain commodity materials. Sometimes, we chose to rely on a single source of supply, when we find superior quality at a competitive price. However, we now have multiple suppliers for core laminate materials like stainless steel and grid wire.

For example, we are able to eliminate a 40% import tariff on steel by switching to another supplier. We are also working diligently to find additional suppliers for polymers and other materials. As we transition our supply chain to include multiple suppliers and significantly increase our volume, we should benefit for more competitive pricing, which will help us reduce our cost per watt.

The second categories manufacturing through putting yield. We realized these savings by increasing the productivity and efficiency of our machines; while we made progress on this front in the second quarter, we continue to seek improvements. During our regularly schedule maintenance in December, we were able to retrofit portions of the Auburn Hills machines to improve throughput and yield there.

The third area combine several items, increasing the conversion efficiency of our laminates, reducing labor cost as well as reducing our general overhead cost. We are successfully producing 144 watt laminates, which have a conversion efficiency of about 8.5% and there are more than 6% efficient than our 136 watt product.

Our research team is working with operations to increase the conversion efficiencies even higher. In addition, labor cost also can be reduced as we expand and lower labor cost markets like Mexico, where our operations and ramp are going very well. Our entire organization is focused on reducing cost and improving performance.

Now, let me turn the call over to our CFO, Sanjeev Kumar for a review of the rest of our financials.

Sanjeev Kumar

Thank you, Mark. Slide 12 shows that we improved solar gross margins for the second quarter to 19.2%, well ahead of our previous guidance of 15% to 16%. This was due to several factors, but primarily due to the various improvements in our manufacturing operations that Mark just discussed.

Let me review a few specific examples. First, as Mark noted, we are reducing our material and labor costs. Second, our ramp at Greenville 1 is proceeding more smoothly and quickly than we had originally forecast. The quality and energy efficiency of the laminates is high and we are selling everything, we can produce.

Third, our Greenville production staff was being trained during the installation and certification process, before we had even begun ramping. In addition, our new facility in Mexico started out at a high productivity level early on. And finally, as a result of several design and operational improvements, our next generation machines in Greenville and Mexico are performing better than our original Auburn Hills machines, and thus drove a higher gross margin in the second quarter than in the first quarter.

This is good news, as it means we are improving with each a duration. We are often asked about our productivity and our gross margin by facility. The reality is that we manage operations on the line by line basis and the financials are more meaningful on a consolidated basis. The full production cycle for our laminates often takes place across more than one facility.

For example, most of the solar PV cells that we produce in Michigan are sent to Mexico to be finished in to laminates, because we save money on the lower labor cost there. Our increased capacity allows us to move products between plants in Michigan to optimize total productivity. Therefore we disclose overall productivity because we think it's a more accurate benchmark to track our progress.

Let me give you some guidance on that growth for the balance of fiscal 2008. We expect total megawatt production for the third quarter to be 30% higher than in the second quarter. Similarly, we expect production in Q4 to be 15% higher than in Q3. Regarding solar gross margins, we are forecasting 21% to 23% in the third quarter and 23% to 25% in the fourth quarter of fiscal 2008.

We expect gross margins to remain at or above 25% in fiscal 2009, as a negative affect of ramping Greenville 2 is partially offset by a larger manufacturing base and improved performance from our new machines.

Let me now discuss a few line items on the expense side beginning with SG&A. Slide 13 shows the impact of SG&A over the course of fiscal 2008. SG&A costs in absolute term have risen in high growth environment; however the important trend to watch is SG&A as a percentage of sales is declining.

Some of the recent SG&A costs were due to the short-term issues like management transition and legal costs associated with Cobasys, which together made of the bulk of the increase in the second quarter. But we had also making planned investments in people and infrastructure to meet the growing market demand for UNI-SOLAR laminates.

We had aggressively pursuing additional costs cutting initiatives, but we are being careful to ensure that we are not sacrificing opportunities for future growth. Our target for SG&A is between 8% and 10% of revenues.

Now, let me discuss research and development. Slide 14, shows a chart of our research and development costs. Let me briefly explain how we account for R&D spending, since it appears in three line items on our income statement. Looking at our second quarter 2008 financials, we booked two different line items of R&D expenses, cost of revenues from product development agreements, which was $1.8 million in the second quarter and product development and research, which was an additional $2.6 million.

Together these two line items add up to a total of approximately $4.4 million in R&D spending, which is how it appears in the Q2 '08 column on slide 14. Offsetting a portion of that $4.4 million is revenues from product development agreements, which include government contracts from Solar America Initiative and the Department of Defense.

In Q2, these revenues were about $2.9 million and are shown in blue. For the second quarter, our net R&D expense about $1.5 million is the difference between the two has shown in red. As the chart shows, we continue to make progress reducing our net R&D costs. For the 2008 full year, our net R&D costs should be 50% to 60% lower than in fiscal 2007.

Now, let me turn to our restructuring efforts. Slide 15, provides an update on the savings we are generating from our restructuring activities. As a reminder, we completed phase I of our restructuring plan in the fourth quarter of fiscal 2007.

In Phase I, we generated approximately $17 million in annualized savings at a cost of $5.4 million, mostly through a 110% reduction in headcount. We also previously stated that Phase II of the restructuring program would occur in fiscal 2008. Phase II will generate an additional $6 million and annualized savings at a cost of about $5 million through the 50% staff reduction in our non-solar activity last November.

With the $2.6 million charge we took in the second quarter, we have now substantially completed Phase II. Since we initiated our restructuring program last year, we have generated a total of $23 million in annualized savings for $10.5 million in restructuring costs. In our ongoing drag to reduce costs, we continue to evaluate additional opportunities to generate measurable savings.

We are currently examining the possibility of consolidating one or more facilities in our Rochester Hills campus. While we haven't yet made our decision on this issue, we want to inform that we may take another $2 million to $3 million in restructuring charges over the second half of fiscal 2008.

Reviewing our balance sheet at the end of the second quarter, we have $155 million in cash in short-term investments. These funds are more than enough to cover the additional $70 million to $80 million of capital expenditures needed to finish installing and ramping our Greenville facilities.

Earlier this week, we also announced a new $55 million revolving credit facility to provide us with some additional financial flexibility. I also want to note that out of wanted material segment, least profitability in the second quarter, with approximately $400,000 in operating income. So, we continue to make excellent progress on a number of fronts.

I will turn the call back over to Mark. Mark?

Mark Morelli

Thank you, Sanjeev. Slide 16 provides an overview of our guidance for the rest of fiscal 2008. Our order book is full, our manufacturing ramp is going well and our pricing is holding in the market. Therefore, we feel very comfortable ways in the low-end of our prior guidance ranges.

For fiscal year 2008, we are now in the range of total revenues from $220 million to $245 million to between $235 million and $245 million. We are doing the same with our solar product sales, where the expected full range increases from between $205 million to $225 million to between $215 million and $225 million.

We are also providing specific third quarter revenue ranges would total revenue range between $65 million and $70 million. Solar product sales in the third quarter are expected to be between $60 million and $65 million and as Sanjeev discussed earlier, solar gross margins in the third quarter are expected to be 21% to 23% and we're reiterating sustainable profitability within the fourth quarter.

Before we take questions, I want to review slide 17, which provides summary of the significant progress we made in the second quarter. First, we said what we would do and we did it. We focused on operational excellence and the results we saw were improved productivity and higher gross margins.

I want to acknowledge much of our success in the second quarter and our continue success going forward is due to the contributions of our expanded management team. Second, the market for UNI-SOLAR laminates continues to grow around the world, which improves our global reach and reduces our country concentration risk.

Finally, we are reiterating our target of reaching sustainable profitability in the fourth quarter as our expansion drive success.

With that we are happy to take your questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions)

Your first audio question comes from the line of Sanjay Shrestha with Lazard Capital Markets.

Sanjay Shrestha - Lazard Capital Markets

First of all, congratulations here, guys, on a good traction. Couple of quick question, first one, on your slide about the visibility on '08 and '09, there is also the red arrow there, especially for '09, you've got 80% covered 20% in conversation and another 30% with the red arrow. Can you talk about that? That means there is additional 30% more that you actually could sell, or gives you flexibility as to where to sell and get the better pricing and things of that nature? Can you talk about that a little bit more?

Mark Morelli

I think what that chart shows is that we have improved 30% over our past earnings call in terms of the overall production sales that we have been able to sell. What that means is that, we have got another 20% that we yet to award those, that sales volume to and quite honestly the discussions that we are having internally are quite difficult because it's really trying to fair out, which are the best customers that we want to work with on a long-term basis. So, we see continued strength and momentum in our sales activity and I think that this chart readily shows that.

Sanjay Shrestha - Lazard Capital Markets

Got it. So, that's the red change here, quarter-over-quarter, got it. So, in terms of the ASPs for '08 to '09, for you guys given the visibility that you have, how much is that -- what was the decline in ASPs from '08 to '09 for you guys on a blended basis?

Mark Morelli

We actually see our, an average selling prices remaining flat just slightly down.

Sanjay Shrestha - Lazard Capital Markets

Got it, and is that because of better understanding in the market of your laminate product and getting big attraction with the rooftop market, is that what it is or what's dictating that because in '09 there is a lot of concerns lets talk about an average selling price potentially going down pretty meaningfully for a lot of players?

Mark Morelli

You're absolutely correct. I think we are beginning to penetrate the right channels. We are reaching our target segments that appreciate the value proposition that our products bring to market and I think that we see good average selling prices as a result.

Sanjay Shrestha - Lazard Capital Markets

Got it. Couple of quick questions and I'll hop back into queue. One point of clarification, Sanjeev, how much was the legal cost, which ended up increasing your SG&A on a sequential basis. Obviously there was a management cost, associated cost, as well, but how much was legal cost at the -- can you give us the sense on that, the related to Cobasys?

Sanjeev Kumar

About $1.5 million to $2 million.

Sanjay Shrestha - Lazard Capital Markets

Got it. So, that is something once Cobasys situation is resolved goes away naturally.

Sanjeev Kumar

Yes.

Sanjay Shrestha - Lazard Capital Markets

Okay great, and got it. And okay that's it for me for now. Thanks a lot guys. Congratulations again.

Mark Morelli

Thank you.

Operator

Your next question comes from the line of Mark Manley with Natixis.

Mark Manley - Natixis

Hi, great quarter. Quickly the royalties look like they were up almost 47% is that an indication that Ovonics PRAM sales are increasing?

Mark Morelli

No, I don't think you should take that indication. I think as you may have seen in the recent news this week that Intel has made two relatively important announcements on the density of the PRAM as well as getting some product out so the customers can now have access to it. However, it's really yet to impact our financials in any significant way, which we are seeing there, is more of our other business that we have some nickel hydroxide sales that in license agreements associated with consumer batteries that were little better than we thought.

Mark Manley - Natixis

Okay. And then just to clarify on slide 11, I think its 1Q '08 cost per watt or is that actually 2Q '08 and does not what was 2Q '08?

Sanjeev Kumar

It's Q1 '08.

Mark Manley - Natixis

Do you have 2Q '08 number for cost per watt?

Mark Morelli

Actually I think the best way to look at this is to really look at our path of grid parity and I think we're making really good progress there. I think the big area to key office clearly our material cost reduction that we elaborate a little bit on and we continue to focus there a lot and we hope to get more traction out some of the incentives we put in place last quarter over this next quarter.

Mark Manley - Natixis

Okay. Then just finally, when might we see announcements beyond Greenville 2, in terms of additional capacity. What's the process there?

Mark Morelli

Well, we think the good news is that we have some pretty good momentum, but we're currently evaluating all options going forward. And we will announce things appropriately.

Mark Manley - Natixis

And do you think the installation times are going to compress as well like the ramp times have?

Mark Morelli

Yeah, that's a very good point. We spent a lot of time looking at our installation times and recognized there is a lot of opportunity for improvement.

Mark Manley - Natixis

Okay. I'll jump back in, thank you.

Operator

Your next question comes from Jesse Pichel with Piper Jaffrey.

Jesse Pichel - Piper Jaffrey

Great quarter and thank you for the added transparency that you providing to investors. My first question is the solar subsidy in Spain and other key regions offer substantially higher incentives for building integrated for photovoltaics and I'd like to know does your product satisfy all of the criteria required under these subsidy schemes?

Mark Morelli

In fact it depends on the definition of the market. The one specifically in France does and that's the type of language that is also being written into some other very restrictive building integrated incentive schemes. We see that quite favorable to our product, in fact we sell quite well into France. We think one reason as a result of that. Spain, we anticipate will be a good market for us, as it evolves more to the building integrated play.

And just another note there, we see the markets evolving from, being predominantly ground mounded early on like the example of Spain and as solar gets a little bit more sophisticated, we can leverage unused rooftop space and these building integrated incentives help us quite a bit.

Jesse Pichel - Piper Jaffrey

And the company had a building integrated shingle at one point and I was wondering is development on that product continuing or has it been abandoned?

Mark Morelli

That was a very innovative product and it came out early on, unfortunately had some problems associated with the difficulty of installation of that product. So, we've learned a lot. And we actually have that back in our product development area and we're looking at ways, where we could substantially improve that product line and you'll hear more about that as we go forward.

Jesse Pichel - Piper Jaffrey

Given the booming semiconductor capital equipment downturn, I'm wondering if you're seeing any better pricing on some of your equipment.

Mark Morelli

Last time we alluded to more of an outsourcing model on our machine build, and we're currently refined our thinking there a lot. As an example, we've awarded a contract for our [affluent] recovery system to company called Marathon, owned by Applied Materials.

And we're having a lot of conversations as we've look at discrete sections of our manufacturing process that we wish to outsource appropriately and we have a lot of interest in that area.

Jesse Pichel - Piper Jaffrey

What type of recovery system did you say?

Mark Morelli

It's called an affluent recovery system.

Jesse Pichel - Piper Jaffrey

Okay. And last topic is the arbitration with Chevron. Is that binding and is there a date that we should look towards, as a resolution there to this?

Mark Morelli

Well, the good news is that we are in settlement conversations. It obviously the dynamic situation that's ongoing, as you know, we have incurred the cost last quarter, and we had a pretty good quarter. So, we are confident in our position on the arbitration and we hope to have another good quarter next quarter.

Jesse Pichel - Piper Jaffrey

Can you speak to your patents health in the overall hybrid market -- you are seeing a greater opportunity there to increase your royalties from all of the battery manufacturers?

Mark Morelli

The view on the, say nickel metal hydride versus lithium ion continues to be mixed. There are a number of folks they are pursuing both paths and we just have to see how to play out over time.

Jesse Pichel - Piper Jaffrey

All right, fair enough. Thanks very much.

Mark Morelli

Thank you.

Operator

Your next question comes from the line of Rob Stone with Cowen and Company

Rob Stone - Cowen & Company

Let me also add congratulations on the excellent disclosure.

Mark Morelli

Thank you.

Rob Stone - Cowen & Company

I wanted to explore the ASP topic a little bit more, Mark. So, you're saying fiscal '09, you still expect prices to be relatively flat even though a number of countries notably Germany and Spain should be seeing steps down, rates at that time.

Is geographic mix going to be helping you there? I imagine that ASPs may be better in Europe overall than the US. So, can you help us get a sense of although global PV ASPs must be coming down in 2009, what's going to keep your prices flat?

Mark Morelli

Sure. As an example, in fiscal year '07, we had our sales in US of about 35% and that's going to fiscal year '09 to less than 25%, and so Europe is taking a bigger piece of it. But more importantly there is a shift within Europe and price in Germany may not necessarily be as attractive as other areas as those markets develop and recognize building integrated solutions.

So, we seem to be getting into an area, where the customers are accepting the value proposition and we are locking into acceptable contracts that are holding up our average selling prices, which I think is good news. The other issue too is, Asia is representing more as a percentage of our sales, really a couple of years ago, that was fairly non-existent and now that's almost 15% at this snapshot in time and once again, they are selling at pretty good average selling prices.

Rob Stone - Cowen & Company

So, with respect to your sales pipeline agreements, how much of those are under predetermine pricing versus with potential price adjustments over fiscal '09?

Mark Morelli

They all stipulated price. And I think at this point, as you have seen we have done some take-or-pay and more appropriately as we go forward, we will probably increase our emphasis on take-or-pay.

Rob Stone - Cowen & Company

Okay. A question related to your cost reduction. I know that polymers represents one of the biggest areas of cost of goods. Are you still looking at single source and did you see some opportunities between now and calendar 2009 to lower your polymer costs as well?

Mark Morelli

Yeah, it's a good question. We've really made more progress on our stainless steel and grid wires, we spoke about. And we think going forward that, the polymer area is very good opportunity to continue to get our pricing down.

Rob Stone - Cowen & Company

So, with respect to the gross margin improvements that you're calling for in the next couple of quarters, can you give us a rough sense of how much of that, is driven by material cost reductions versus just a benefits of ramping more of our capacity?

Mark Morelli

Yeah, we think its probably early on we're going to get more out of the production, excuse me the material area then that production, the production involves as you know getting process controls in place and we think there is a lot of opportunity there. But in particular on the supply side, when you start working with multiple suppliers, you can bring the cost down more quickly on the material side.

Rob Stone - Cowen & Company

Great, thanks very much.

Mark Morelli

Thank you.

Operator

Your next question comes from Colin Rusch with Broadpoint Capital.

Colin Rusch - Broadpoint Capital

What are seeing in terms of the sales dynamics there and how the value proposition is being received, particularly in Korea and potentially in Japan.

Mark Morelli

Colin, I'm sorry. We didn't catch the beginning part of our question. Can you repeat it again?

Colin Rusch - Broadpoint Capital

I'm wondering about the sales process in Asia, given the density of population in that geography, are you seeing a different sales process in terms of receptivity to the product, and the advantages, what the customers are looking for, would you see as the prospects are there, particularly in Korea and Japan?

Mark Morelli

Well, most of our new sales are actually going into South Korea and they tend to be the same type value proposition, which is more the building applied or building integrated. It goes very well on large commercial roof space. We don't see this in a high density city application installed directly on the roof, is probably not the best area to sell our product in.

Certainly South Korea has a great industrial base and they've got lots of opportunity for warehousing, for malls, for healthcare facilities and these are all very good opportunity to sell our products. So, we see it over time really going on to the same type of applications.

Colin Rusch - Broadpoint Capital

Great, and then can you talk a little bit about your payment terms I think your balance sheet it looks like your receivables have gone down pretty significantly as a percentage of sales. Could you talk about how your customers are paying, is that changing or you have a larger percentage of contracted volumes. Could you give us some visibility there?

Sanjeev Kumar

The payments terms are getting better. However, the significant decrease that you see is probably related to the timing of the sales. Quite a bit of the sales in Q1 were towards the end of the quarter, as a result we had a build-up in the accounts receivable and as the sales are getting more uniformly spread out towards the quarter. The account receivables will get more normalized.

Colin Rusch - Broadpoint Capital

Excellent, and then can you talk a little bit about the Italian market. Are you starting to see any of your customers offering power purchase agreements or getting near offering power purchase agreements, in Italy, given high electricity prices there?

Mark Morelli

The power purchase agreements are an important mechanism for many of our customers not only Italy but other markets as well, as they further develop this opportunity. So, a folks like SunEdison as you know, we do definitely see folks leveraging that mechanism and we work quite honestly with them on that many times.

Colin Rusch - Broadpoint Capital

Excellent. Thank you so much.

Operator

Your next question comes from the line of Steve O'Rourke with Deutsche Bank.

Steve O'Rourke - Deutsche Bank

Hey, good morning. Could you tell us what's finished goods inventory was for UNI-SOLAR in the quarter and how it changed quarter-over-quarter.

Mark Morelli

Yeah, it was about 700 kilowatts and it came down from over 2 megawatts in the previous quarter.

Steve O'Rourke - Deutsche Bank

Fair enough. And who were the 10% customers in the quarter?

Mark Morelli

Can you repeat that question again please?

Steve O'Rourke - Deutsche Bank

Who were the 10% customers in the quarter?

Sanjeev Kumar

Steve, can you repeat for that question?

Steve O'Rourke - Deutsche Bank

For UNI-SOLAR, did you have any 10% customers in the quarter and who were they? It is 10% of revenue for UNI-SOLAR?

Sanjeev Kumar

Oh, 10% of revenue.

Steve O'Rourke - Deutsche Bank

Yes.

Sanjeev Kumar

We have -- yes, I think about one or two customers would fall in that category.

Steve O'Rourke - Deutsche Bank

Go ahead.

Sanjeev Kumar

No, go ahead.

Steve O'Rourke - Deutsche Bank

Could you say geography of where those were?

Sanjeev Kumar

In the US?

Steve O'Rourke - Deutsche Bank

Okay. And you seem to have this ability now; you're speaking of, to kind of cheery pick who your customers are going forward?

Mark Morelli

I wouldn't say cheery pick is the right word. We rather say we're really determining, which are the folks who want to work with on a long-term basis, that we think is going to get mutually the most attraction in the long-term.

Steve O'Rourke - Deutsche Bank

Okay. And the two questions with respect to that. Could that actually lead to improving ASPs through 2008? And is there any meaningful ASP differences between take-or-pay contracts and customers that don't have take-or-pay contracts?

Mark Morelli

Well, we definitely see that the ASPs are somewhat flattish, just slightly down. And in terms of take-or-pay we think that, we don't actually see a big difference there, it's more of the value proposition and really locking in the right customers for the right value proposition.

Steve O'Rourke - Deutsche Bank

Fair enough. And when you look at the new contracts that you've signed recently, is there a percentage that you can point to that kind of your earmarked for the rooftop market that you're focused on?

Mark Morelli

I don't think we really look at it that way. Most of it is really going on rooftop, is pretty much the way we look at it, and sometimes it may end up somewhere else, but the vast majority is for commercial rooftops.

Steve O'Rourke - Deutsche Bank

Fair enough. Thank you.

Operator

Your next question comes from Adam Hinckley with Oppenheimer.

Adam Hinckley - Oppenheimer

Good morning. Mark, just in relation to the guidance for sustained profitability by 4Q, does that exclude the preproduction start-up costs?

Mark Morelli

No, that includes our preproduction solar costs.

Adam Hinckley - Oppenheimer

That's great. And then the other question I have is in terms of the $1.10 goal by 2012, what sort of efficiency assumption are you using and also to get to the $0.08 to $0.10 per kilowatt hour of electricity cost. What is the balance of system and installation costs you're assuming?

Mark Morelli

Yeah, it's about 9.5% conversion efficiency by 2012. And we expect about $3 per watt selling price for the $0.08 to $0.10 per kilowatt hour.

Sanjeev Kumar

$3 for the fully installed system.

Adam Hinckley - Oppenheimer

Right, okay. Great, that's al I have. Thanks.

Operator

Your next question comes from the Paul Clegg with Jefferies & Company.

Paul Clegg - Jefferies & Company

Hey, guys. Congrats on faster ramp.

Mark Morelli

Thank you.

Paul Clegg - Jefferies & Company

Do you sense of what percentage the installation that you're selling into require a low rate or flexible solution?

Mark Morelli

We actually don't track that per say, but we do know from talking with some customers that it seems to be a bit of a natural fit. We also know that about third of all commercial roofs of about 50,000 square foot or larger are constructed with low load bearing characteristics.

Paul Clegg - Jefferies & Company

And you sense is that you're selling more into that market than into both that are low load and non-low load?

Mark Morelli

Yeah, Well we see like I said, we don't track it specifically, but we do see them going into both, but it does seem that it's kind of a natural fit.

Paul Clegg - Jefferies & Company

And I mean this is for Sanjeev, but what would the savings be from consolidating facilities in Rochester Hills?

Sanjeev Kumar

We are still going through that exercise, Paul and we should have a better sense here and thus once we've already we will announce that number, we are looking at various iterations and various possibilities. So, that exercise is underway and as soon as we have something to announce we will give you more information.

Paul Clegg - Jefferies & Company

Okay. And one quick follow-up, what percentage of backlog at this point is take-or-pay.

Mark Morelli

Just very small percent, it's a new initiative for us.

Paul Clegg - Jefferies & Company

Okay. Thanks very much, guys.

Mark Morelli

Thank you.

Operator

Your next question comes from Michael Horwitz with Pacific Growth Equities.

Michael Horwitz - Pacific Growth Equities

Great quarter and I'll echo thank you for these slides, this is helpful. A lot of my questions have been asked, however, because you're basically ramping your entire plan here at the end of this fiscal year and we will looking for capacity expansion plans and I heard your earlier answer, but how do you look at geography, when you think about that and capital cost per watt, how that may have change, Mark, now that you have joined and you guys have been able to dig deep in the operations and understand how that might look going forward?

Mark Morelli

Well, we have, I'd say, a renewed focus on improving our return on invested capital. I see a lot of opportunities and how we have constructed these facilities. Certainly on our announced capacities, that is really our focal point we see continued expansion, probably in Michigan, because we do own some land here. But we are also looking at other locales, based on government incentives.

We have noticed that that's been an important contribution to other solar companies as they've grown and we want to make sure we leverage that appropriately as well. So, we do have a very intense focus on improving our return on invested capital and we think we can do better there.

Michael Horwitz - Pacific Growth Equities

And is there an opportunity to instead of having laminate shipped down to Mexico to consolidate those operations in foreign countries, so soups or nuts in a foreign country rather than Michigan and then other areas?

Mark Morelli

Well our ramp in Mexico has gone very well and it's an interesting manufacturing process, because we are really breaking into three steps. And the third step, which is really taking these individual cells and stringing them together and laminate it is more labor oriented in terms of the total cost.

And the transportation costs to get these sales down there is very low. So, we see a bit of more of a distributive model, where we will probably be doing this type labor intensive operation in geographies around the world.

Michael Horwitz - Pacific Growth Equities

Okay, great. And then just one little question about some of the technology that's resided in the company, as part of R&D efforts over many, many years any plans to license some of that technology or put it in other peoples hands to commercialize rather than yourself?

Mark Morelli

Well, we have a treasure-trove of IP and we are obviously interested in monetizing that appropriately. So, we're open to all opportunities to do that.

Michael Horwitz - Pacific Growth Equities

Alright, great. Thanks for the call.

Mark Morelli

Thank you.

Operator

Your next question comes from the line of Stephen Chin with UBS.

Jagadish - UBS

Jagadish on behalf of Steven. I have a couple of questions. I wanted to know what are your efficiencies, what were they at the end of 2007 and what do you expect in terms of the efficiencies at the end of 2008 please?

Mark Morelli

You're talking conversion efficiency?

Jagadish - UBS

Exactly.

Mark Morelli

As you know our 144 watt laminate is about 8.5% conversion efficiency. We shipped about 10% of that product last quarter. We anticipate shipping about 20% of that product in our Q3 and then going to about 35% in the end of Q4.

Jagadish - UBS

And the second question I wanted to find out was that you had thrown out a number about 5 gigawatts per BIPV. What is your realistic estimate for market share of that 5 gigawatt opportunity please?

Mark Morelli

Well, we think that the overall market is probably about 10 gigawatts in 2012. So, we're just saying the sweat spot really for our market is within that 5 gigawatts.

Jagadish - UBS

But what is your estimate of, what kind of share, you think you can probably get at that number?

Mark Morelli

Well, we're currently going through estimates, so we don't have a specific number there. But we think that it's conceivable, we could grow pretty significantly given our value proposition.

Jagadish - UBS

And the last question I had is that, can you help us with the competitive dynamics in the, in your rooftop excluding SunPower kind of company operation and can you tell us, what kind of competitive landscape are you seeing there?

Mark Morelli

Well, we think the folks are focusing legitimately on value propositions that make the most sense for their product lines and as this market grows, you will probably see, your folks really begin to harness their efforts in areas that make the most sense.

So, in reality we don't see a huge amount of competitive pressure because we are mostly generating a new channel. We are developing a new channel to markets that's proven to be quite successful. So, I don't think that, we're too concerned about competitive dynamics at the moment.

Jagadish - UBS

Okay. That's good. Thank you.

Operator

Your next question comes from the line of Pearce Hammond with Simmons & Company International

Pearce Hammond - Simmons & Company International

Good morning.

Mark Morelli

Good morning.

Pearce Hammond - Simmons & Company International

My questions are on the take-or-pay contracts. First of all, what's the level of customer interest at this point? Secondly, what would you consider to be a typical term, I know the recent take-or-pay was calendar years '08 and '09. And then what thought process do you go through before you enter a take-or-pay with a particular customer?

Mark Morelli

Well, there does seem to be interest on the take-or-pay contracts and obviously we want to extend them out beyond that timeframe that you just indicated. What we typically look at for take-or-pay contract is really just an important strategic fit for us in a target segment, where we believe that market opportunity will grow.

Obviously, one of the other things that we're working on here is billing of steel support organization to make sure that we have outstanding quality and customer satisfaction, when our products are installed. So, we do need to be selective on where we're going to put our footprints, so that we can very adequately support that customer base going forward.

Pearce Hammond - Simmons & Company International

And then if you were to sign a longer term take-or-pay, say five years. How would pricing be structured and an agreement like that just broadly?

Mark Morelli

Yeah, it's a little tough to answer that question, but obviously we're showing we want to get the grid parity. So, we obviously want to be able to price for that accordingly.

Pearce Hammond - Simmons & Company International

Great and then, can you provide an update on the ITC?

Mark Morelli

Yeah, I think that as you noticed, what happened yesterday, was the latest efforts to the US government has not been fruitful. However, there is still hope out for the remainder of this year. We do not see this impact in our volume, next year one as we indicated earlier, that our concentration risk from the US has diminished. We're very optimistic of the US market long-term.

We think that we are well positioned to compete in the US. And we're hopeful that the appropriate incentives are released at the Federal level. At the same time we see a lot of incentives on the state level that continue to drive demand for our product.

Pearce Hammond - Simmons & Company International

Great, thank you very much.

Operator

Your next question comes from Patrick Forkin with Tejas Securities

Patrick Forkin - Tejas Securities

Good morning and congratulations on great execution during the quarter. Mark, on your slide number 6 with respect to sales channels and the 56% of component in building materials, I was wondering what you are seeing in the lines of competitive product, I mean obviously, glass substrates film make much sense on rooftops and it looks like the thick guys on flexible substrates are still a couple of years away from having their [capsulate issues] resolved, but what types of products are you seeing that you are competing in or against in that sales channel there?

Mark Morelli

Well, the challenge that we have there is really educating and creating the channel that previously didn't exist before and you see folks that are really getting into this business and working with them appropriately.

Systems Integrated or ticker symbol SIT, has been a great example of that, and they have really worked diligently to develop their market space and we see other folks, they are also getting a lot of good traction there.

So, I don't say that it's a competitive issue at the moment. It's just really working with these folks that are best suited to compete in this segment and help them be successful.

Patrick Forkin - Tejas Securities

So, you are saying you really do not have much direct competition for flexible substrates in this sales channel?

Mark Morelli

That's correct.

Patrick Forkin - Tejas Securities

Okay, very good and then you commented on the 5% piece there, the ESCOs and the utilities, that I assume that's the ground mount business. You see that shrinking over time?

Mark Morelli

No, actually, we don't see it shrinking over time, because there are a couple of utilities we're working with such as EDF, Novell, which is actually interested specifically with us for the building integrated market. They cut our contracts to other folks for other solar products they have targeted for other spaces. But they also see, particularly in the French and other European markets, opportunities to grow on rooftop installations to get more building integrated.

And I think they view this as a distributed power play, you may know many areas in the world are great constrain with getting the power, where they actually needed and ground mounted systems actually, combined to the problem of congestion in electricity grids. So, if you can put some power, actually moreover its need, you actually don't have to use the grid itself. And so, there are some utilities that are quite interested in further exploring that with solar.

Patrick Forkin - Tejas Securities

Okay. That's helpful. Thank you.

Operator

Your next question comes from Michael Molnar with Goldman Sachs.

Michael Molnar - Goldman Sachs

Good morning, guys.

Mark Morelli

Good morning.

Michael Molnar - Goldman Sachs

Just a quick question most of mine have been answered. I just want to make sure I understand when you talk about grid parity and the $1.10. Would I be right in assuming if you produce at a $1.10, you're kind of assuming some sort of sales price of maybe $1.50, and another $1.50 for the balance of system to get to the $3 installed, is that right, about right?

Mark Morelli

Yeah, obviously we want to push that selling price up to recognize the value proposition and that we bring to the market place, but I think the focus is about $3 total selling price for everything included.

Michael Molnar - Goldman Sachs

And do you have any idea, just one last thing, there are some other companies out there saying grid parity $0.08 to $0.10, but they talk about a $2 to $2.50 watt installed cost. Do you have any idea of the difference in your assumptions, when you calculated versus some others out there with some different numbers?

Mark Morelli

No, I can't speak to their calculation.

Michael Molnar - Goldman Sachs

Okay. Thank you.

Operator

Your next question comes from Ronan Wolfsdorf with Cowen & Company.

Ronan Wolfsdorf - Cowen & Company

Some of my question have been answered, but I just wanted to see if we go back to the SG&A number and if you could just aggregate that a bit more both for the September and December quarter and going forward, let us to say if what you anticipate for instance in legal costs in the March quarter?

Sanjeev Kumar

The legal costs for the March quarter is difficult to predict right now, it will depend upon how quickly we can resolve the arbitration, but barring that we would expect our SG&A on the raw dollar terms to remain fairly even throughout the quarters in '08, as we see the savings from our restructuring efforts, cost savings, but as we continue to invest in the solar business.

So, in terms of raw dollars we expected to be relatively flat, but as you can see as a percentage of total sales, obviously it comes down as our top line increases.

Ronan Wolfsdorf - Cowen & Company

And can you take us through the December quarter, just in terms of the major pieces of SG&A. I think you said that legal is about $1.5 million to $2 million, if you could break out some of the other items?

Sanjeev Kumar

Yeah, some of the bigger items in Q2 are items related to our growth in the sales and marketing organization and in UNI-SOLAR, we have tripled the sales and marketing organization in Europe. We are incurring additional facilities costs as we bring on Greenville 1 facility, as they continue to ramp up.

And as we have some management transition cost as well included in Q2.

Ronan Wolfsdorf - Cowen & Company

Okay. Thanks very much.

Sanjeev Kumar

That's all.

Ronan Wolfsdorf - Cowen & Company

Yeah, okay it was great.

Operator

And your final question comes from Clint Coghill with Coghill Capital Management

Clint Coghill - Coghill Capital Management

Hey, guys. Mark, tremendous change in leadership, it's actually great to see company executing and heads off and doing so really, really quickly.

I had a couple of quick questions here. First, I loved your thoughts on just the building integrated photovoltaic take growth, as compared to just the overall solar space growth? And then I have a second follow-up question.

Mark Morelli

We believe building integrated is experiencing growth far beyond the rest of the solar market, as folks are trying to leverage the opportunity to utilize unused space of rooftops and also get more into possibly distributed power applications. In other words using the power, generating the power, where the power is actually needed and not having to utilize the grid. So, going forward, our view is that, that building integrated space will continue to outpace the overall growth of solar.

Clint Coghill - Coghill Capital Management

Got it and then the second question, if you won some significant contracts recently and so, it appears that you must be developing some pretty good visibility for your order book for beyond 2009 and I guess qualitatively can you just comment on that a little bit?

Mark Morelli

Sure, we don't actually show it, but we are selling beyond 2009. We have about a quarter of our 2010 sold at this point and we anticipate that it's a snapshot in timing. We anticipate, we just continue to grow momentum on our sales side.

Clint Coghill - Coghill Capital Management

Got you, I guess one final question is, just the cost for installation and maintenance of your product versus the competitive products in different areas?

Mark Morelli

We noticed a pretty significant installation cost particularly when folks like SIT or the roofing companies are working with a system, where they actually roll out the PV and they can very easily tie-up the pigtails and connect to the inverter, we see a path no through holes, we see no balance required and the overall installation itself takes -- technicians that are really familiar more with the roofing business, then from a highly sophisticated solar business. So, we see many, many benefits on the rooftop installation side.

Clint Coghill - Coghill Capital Management

Great, thanks again.

Mark Morelli

Thank you.

Operator

At this time there are no further questions. Mr. Morelli, do you have any closing remarks?

Mark Morelli

Thanks again for joining us on today's call. Hopefully, you now have a better understanding of what we're doing to reinvent ECD around operational excellence, reach sustained profitability in the fourth quarter and scale our manufacturing operations to meet growing demand for UNI-SOLAR laminates. We look forward to speaking with you next quarter. Thank you.

Operator

This concludes today's conference. You may now disconnect.

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