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American Superconductor (NASDAQ:AMSC)

Q4 2008 Earnings Call

May 08, 2008 10:00 am ET

Executives

Jason Fredette - Director of Investor Relations

Gregory Yurek - Chairman, President and Chief Executive Officer

David Henry - Senior Vice President, Chief Financial Officer and Treasurer

Analysts

Carter Shoop - Deutsche Bank

Ben Kallo - Stanford Group

Corey Tobin - William Blair and Company

Jim Ricchiuti - Needham & Co

Stuart Bush - RBC Capital Markets

Michael Carboy - Signal Hill

Walter Nasdeo - Ardour Capital

Pavel Molchanov - Raymond James

Brian Yerger - Jesup and Lamont

Pete Patterson - Patterson Investments

Operator

Good day, everyone, and welcome to American Superconductors Fourth Quarter Fiscal 2008 Conference Call. Today's call is being recorded. With us on the call this morning are American Superconductor's Founder and CEO, Greg Yurek; Senior Vice President and CFO, David Henry; and Investor Relations Director, Jason Fredette.

For opening remarks and introductions I'd like to turn the call over to Mr. Jason Fredette. Please go ahead, sir.

Jason Fredette – Director of Investor Relations

Thanks Dana. I would like to point out that certain remarks we make this morning regarding our financial forecasts and other beliefs, plans and expectations constitute forward-looking statements.

There are number of risks and uncertainties that may cause actual results to differ significantly from these statements. Please refer to our 10-K, which was filed with the SEC on June 14, 2007 and our subsequent 10-Qs for information about these risks and uncertainties.

I would also like to note that we will be referring to EBITDAS this morning for earnings before interest income, other non-operating expense, income taxes, depreciation, amortization and stock compensation.

EBITDAS is a non-GAAP financial metric. A reconciliation of EBITDAS to net loss on a GAAP basis is included in the press release we issued and filed with the SEC this morning on Form 8-K. All of our SEC filings can be accessed in the Investor Section of our website at www.amsc.com.

And now, I’ll turn the call over to Greg.

Gregory Yurek – Chairman, President and Chief Executive Officer

Thanks Jason. And good morning everyone. We had a very successful fourth quarter and fiscal year on many different fronts. I'll start with the financial highlights, and then review some of our product development progress. Revenues increased by over 100% year-over year to more than $38 million in the fourth quarter and approximately 112 million for the full fiscal year 2007, both new records for AMSC. We were EBITDAS positive in the fourth quarter for the first time in Company history, and that was accomplished despite the fact that we incurred 2.6 million in restructuring charges for the quarter. We also cut our net loss significantly during both the fourth quarter and the fiscal year, and we grew our backlog to $199 million as of March 31, which puts us in a great starting position for further strong growth in fiscal 2008.

Before we review the outlook for fiscal 2008, let's discuss some of the trends we are seeing in our business in our core markets, namely wind power and electric power grids. Let's start with the power grid market and high temperature superconductor wires, or HTS wires, for short. On April the 22nd, we energized the world's first superconductor transmission cable system in the commercial power grid of Long Island Power Authority, or LIPA. This is a watershed event for our company and the electric utility industry.

After a decade of development, HTS cables are now actively being deployed in the grid. National Grid and American Electric Power energized the first two HTS power distribution cables in the U.S. grid in 2006. LIPA is the third to go live in the U.S. power grid. However, the LIPA project is quite different from the others. At 138 kilovolts and 574 megawatts of power capacity, this is the most powerful superconductor cable ever made. And at 600 meters, it is also the longest. LIPA plans to retain the new superconductor cable as a permanent part of its grid. Better still, having seen the benefits of the technology firsthand, LIPA has now added HTS cables to its normal planning process for grid upgrades and expansion. This means that any new or upgrade projects going forward will include an evaluation of HTS cables along with conventional power cable technologies. We've already started the second phase of the LIPA project, in which we will be replacing one of the system's three phases with a cable made with 344 superconductors, our brand name for what is generically known as 3G HTS wire.

As many of you know, we turned on our new pilot manufacturing line for 344 superconductors in November 2007. During the fourth quarter, we made significant progress in overcoming the obstacles companies always face in a manufacturing startup. Most of the obstacles have fallen into two camps and have largely been handled. The first was our substrate material, which is a nickel tungsten alloy. The quality of the incoming alloy ingot, which weighs several thousand pounds, did not meet our specifications. As a result, the first wires that came off the pilot line with this alloy base were good superconductors, but had lower electrical performance than we had been achieving in our pre-pilot line. We resolved this issue and I'm happy to report that our new base material is even better than we had originally planned, which means we expect the electrical performance of our 344 superconductors to be higher achieved in the pre-pilot operation. The second issue we faced was mechanical in nature. Slight imperfections in our wide strips were observed as the material passed through certain pieces of our new manufacturing equipment. This was the more challenging issue for us as we had to the various mechanical defects and then rectify them. These defects were related to issues such as the alignment of pay-out and take-up reels in our reel-to-reel manufacturing process as we migrated to the much longer production runs. The defect also included contamination picked up during the manufacturing process.

We have succeeded in identifying and eliminating many of the causes of those defects to date and production continues in order to meet the needs of the three main projects that require 344 superconductors in the near term. These three projects are, first, the second phase of the LIPA cable project; second, the secure super grids cable system we're deploying in Manhattan under Project Hydra; and third, a fault current limiter project we and our partner, Siemens, have undertaken for Southern California Edison.

All of these projects are expected to be completed on schedule. In Q4, we achieved additional successes in the power grid sector with our power systems product line. In particular, we received orders from two additional electric utilities for our proprietary D-VAR reactive compensation solution. One of those was a repeat order that came from Entergy for one of their grids in Mississippi. D- VAR systems are classified as static compensators, or statcoms. Until very recently, electric utilities have only used passive devices in their power grids. Statcoms are active grid management tools and are relatively new on the electric utility scene.

Our D-VAR statcoms are able to detect and actively compensate voltage disturbances on their own by instantly injecting precise amounts of reactive power into the grid to support voltage and keep the power flowing as planned. We have now deployed well over 60 statcom devices, more than all other manufacturers combined, and our customers include more than 20 electric utilities worldwide. As you know, our competitors in this space are primarily ABB, Siemens, Mitsubishi Electric, and AREVA, so our sales accomplishments in the statcom space are something to be proud of. We also added static VAR compensators, or SVCs, to our product portfolio in 2007 through the acquisition of Power Quality Systems, Inc.

Like the D-VAR, SVCs are used by electric utilities to regulate voltage, prevent blackouts, and enhance power throughput on their existing grid assets. SVCs are large, turnkey solutions, and we are now in the process of deploying our first two SVCs in the western grid in the United States. We expect to commission the first of these systems in the second half of 2008, which is important for us from the perspective of creating reference sites for future sales. As we have noted in the past, turnkey SVC projects with electric utilities tend to start at $5 million each, so this is a business that could help accelerate our top line even further in the years to come. As you can see, then, there's a lot of opportunity and activity for us in the power grid market. And as we'll discuss later, this opportunity is not just in North America.

Now, let's shift gears and look at the wind power market. AMSC derived 70% of its sales from wind in fiscal 2007, a significant increase from approximately 30% the prior fiscal year. We have multiple product and solution offerings in the wind market. The first is our D-VAR solution, which helps regulate voltage for entire wind farms, so they can safety connect with the power grid. Over the past couple months, we closed two additional D-VAR orders in the wind arena, bringing the number of wind farms served by this product to 35 worldwide. We expect this portion of our business to continue to grow as more and more wind farms are connected to the power grid.

We also saw licenses for our proprietary wind turbine designs, and we custom design and develop wind turbines for companies who want to get into the business of manufacturing wind turbines. In Q4, we further expanded AMSC's geographic presence when we sold our first license in India. This was for our 1.65 megawatt turbine design to Ghodawat Industries. Ghodawat has been manufacturing wind turbine towers for customers such as Suzlon, Vestas, and Enercon for several years now. They also own and operate wind farms across four states in India. So they know the market very well and they bring a lot of experience to the table. Ghodawat will now begin manufacturing complete wind turbines using our proprietary AMSC Windtec design. They intend to sell those turbines for domestic use in India and for export to countries in the Middle East, Southern Asia, and Africa. As usual, we'll provide training for their staff and project management services for Ghodawat's first prototype units, which should be up and running in early 2009.

What does this mean financially for AMSC? Well, in addition to a multimillion dollar upfront license fee, we will receive a royalty payment from Ghodawat for each of the first 550 wind turbines they manufacture. And, of course, we have the right of first refusal to provide the full electrical systems and core electrical components for all of the wind turbines manufacturing by Ghodawat. Remember that the average selling price for core electrical components for 1.65 megawatt turbines is about $60,000.

So altogether, with royalties and sales of core electrical components, we expect revenues approaching $30 million for Ghodawat's first tranche of 550 wind turbines it plans to start manufacturing in 2009. And, of course, we expect them to expand beyond that going forward.

India is a strategically important market for AMSC with respect to two key markets - wind power and the power grid. India has the third largest installed capacity of wind power in the world today and the market is growing well in excess of 20% annually. It long been dominated by a few large turbine suppliers, only one of which is based in India.

So there's ample room for new turbine manufacturers to enter the market and begin taking market share. We selected Ghodawat as our frontrunner in India. But our opportunities aren't just limited to Ghodawat and they aren't just limited to the wind industry. India's electricity infrastructure is in dire need of upgrade and expansion, and massive efforts are underway in that country to bolster the grid to better support the country's economic growth.

This means there are significant opportunities for sales of our D-VARS, SVCs, and superconductor solutions, not only in China, but also in India. In short, we think we have a tremendous opportunity to replicate in India the success we are achieving today in China. And speaking of China, our successes there are just beginning.

Our story in China also starts with the wind industry and we expect that we'll soon expand beyond that into the power grid sector. Wind power in China is truly big business. The country more than doubled its install base of wind power to about 6 gigawatts in 2007. But the growth appears to be accelerating further now.

Just last week, the Vice President of the Chinese Wind Energy Association was quoted as saying that China's top wind power planning body is now discussing the possibility of increasing the country's wind power capacity to 100 gigawatts by 2020. Again, that's up from 6 gigawatts currently, and the previous target for 2020 was 20 to 30 gigawatts. To put up 100 gigawatts in perspective, that equates to about 100 nuclear power plants and it's greater than all of France's generation capacity. And 100 gigawatts might not be all that aggressive. A report issued in November '07 saying that as much as 122 gigawatts of wind power could be online by 2020 in China.

So what does all of that mean for AMSC? Simply stated, continued strong growth. Let me quickly summarize our current position in the Chinese wind market and then speak to our growth prospects. We have three customers in China that are using our designs to manufacture wind turbines. The first is Sinovel, our largest customer. Sinovel is the epitome of a high octane business success story in China. They're the second largest domestic turbine manufacturer in China and the eighth largest in the world. Quite an achievement for a company that began manufacturing wind turbines less than three years ago.

To date, we have sold Sinovel well over 2000 sets of core electrical components for their 1.5 megawatt wind turbines. And in the fourth quarter, we announced that Sinovel had placed their first order with us for electrical systems and components for the 3 megawatt wind turbines we have been co-developing with them.

This first order for 3 megawatt wind turbines totaled over $18 million and we expect to recognize all of that revenue over the course of the next 15 months. And Sinovel plans to continue to produce 1.5 megawatt wind turbines for years to come, which means we are likely to see more orders from Sinovel for core electrical components for those 1.5 megawatt wind turbines later this year. In addition to Sinovel, we also have been seeing the steady stream of smaller orders from located in the Hunan province in China. To date, CSR-ZELRI has ordered more than 56 sets of core electrical components from AMSC for the 1.65 megawatt wind turbines we licensed to them in January 2007. CSR-ZELRI just recently began manufacturing and shipping its wind turbines for the Chinese market. Our third Chinese wind customer is Dong Fang Electric. Dong Fang ranks right behind Sinovel, the third largest domestic turbine manufacturer in China. Like Sinovel, Dong Fang initially focused on manufacturing 1.5 megawatt turbines, but they are now diversifying their portfolio with the help of AMSC Windtec.

About a year ago, we began developing a 2.5 megawatt turbine for them. And in March we announced that they have placed their first order for complete electrical systems for four 2.5 megawatt wind turbines they plan to manufacture and test in early 2009. For those of you who are building financial models on AMSC, four electrical components for 1.5 megawatt turbines have an ASP, an average selling price, of $50,000, and 1.60 megawatt turbines have an ASP of about $60,000. That continues to scale somewhat linearly as you go up in power rating. So you can expect 3 megawatt electrical components to sell for roughly $100,000 and 5 megawatt units to sell for approximately $150,000. Complete electrical systems would sell for a higher ASP still.

Now, back to China and its rapid high octane economic growth. We defined and started implementing our China strategy, known internally here as Project Dragon, three years ago. As a result of our implementation of this strategy, we are very well positioned to participate effectively in both the wind and power grid markets in China. One of the reasons we can say that is because Project Dragon led to the development of AMSC China, which we formed as a wholly owned enterprise in September 2007. AMSC China focuses on serving China's growing wind energy, power grid, and industrial markets, with products from both our power systems and superconductors business units.

This division is headquartered in Suzhou, which is located approximately kilometers northwest of Shanghai. Additionally, we now have sales offices in Beijing and Shanghai. Since we first announced the formation of AMSC China in October 2007, we have tripled our Chinese employee base to approximately 75 in order to support our growth in China. We recently appointed a country manager to lead this division. This individual brings to AMSC more than 15 years of experience managing Chinese divisions of multibillion dollar multinational corporations.

We've also begun production of our proprietary power module power converters in Suzhou and are already at our planned monthly production rate. Our power module product line serves as the heart of the electrical systems and core components we're selling into the wind market, as well as the D-VAR solution that we sell to wind farms and electric utilities. In the months ahead, we will continue scaling up production of these systems as more demand is created to take advantage of the lower raw material and labor costs we can access in the region.

This should enable us to maintain solid gross margins as our sales volumes continue to increase. We also see ample opportunities to cultivate relationships with new turbine manufacturers and to begin penetrating China's sizeable power grid opportunity with both our power systems and superconductors offerings. Recent reports have indicated that China plans to spend $1.5 trillion over the next 40 years on its electricity infrastructure. We fully expect to participate in this market opportunity and we look forward to reporting back to you on our progress in the year ahead.

Dave will take you through the financials to provide our detailed financial forecast in just a minute. But the clear message is that the growth here at American Superconductor has just begun. While fiscal 2007 was a rousing success for us, fiscal 2008 will be better still as our revenues continue to grow strongly and our bottom line improves further. Having achieved positive EBITDAS now, our attention now turns fully to GAAP profitability and that milestone is on the near term horizon. And now, I'll turn it over to Dave. Dave?

David Henry – Senior Vice President, Chief Financial Officer and Treasurer

Thanks, Greg, and good morning, everyone. As Greg just summarized, our performance for the fourth quarter and full year of fiscal 2007 were strong. Based on accelerating orders growth generated by our sales team solid execution in the manufacturing of our products, and tight spending controls, we were able to post another substantial increase in revenues and exceed our bottom line forecast for fiscal 2007.

Revenue for the fourth quarter of fiscal 2007 was a record 38.4 million, up 18% sequentially, and 101% from 19.1 million in the year ago quarter. This was our fifth consecutive quarter of sequential revenue growth. Of this total, AMSC power systems generated a record 34.3 million, which was up 150% from 13.7 million in the fourth quarter of fiscal 2006.

The major driver of the increase in sales--is sales of core electrical components for wind turbines. AMSC power systems accounted for approximately 89% of our total sales in Q4, which is in line with the model we have shared with you previously for fiscal 2008

Our AMSC superconductors segment generated the remaining 11%. AMSC superconductors revenue in the fourth quarter was 4 million, which was down 25% compared to 5.4 million in the year ago quarter. This decline is primarily the result of lower 1G wire sales and a lower contribution from our 36.5 megawatt motor and LIPA one projects, both of which have now been completed.

We entered the first quarter of fiscal 2008 with approximately 199 million of backlog. That's up from 168 million on December 31st, 2007. Of that total, more than 150 million is shippable in fiscal 2008.

Our Project Hydra contract and orders from Sinovel Wind for 3 megawatt core electrical components accounted for the majority of our bookings during the quarter. Gross profit for the fourth quarter was 12.8 million, resulting in a record gross margin of 33.2%. This compares to gross margin of 30.9% in the third quarter of fiscal 2007 and 5.7% for the fourth quarter of fiscal 2006.

Fourth quarter gross margin increased because revenues from power systems, which has higher gross margins than superconductors, constituted a higher fraction of our total revenues. In addition, we benefited from a weaker dollar during the quarter, and power systems fulfilled one particular order that contributed an unusually high gross margin.

As a result of our performance in the second half of fiscal 2007, we are increasing our target gross margin range to be between 30 and 35% versus our previous target range of 25% to 30%. Assuming both the higher mix of turnkey revenues in power systems and a stronger dollar, gross margin is expected to be at the lower end of this new target range for fiscal 2008. As a result, gross margin is expected to increase year-over-year.

R&D expenses for the fourth quarter were 3.7 million or 10% of revenue. This compares with 5.8 million or 30% of revenue for the fourth quarter of fiscal 2006. The decrease was driven by lower R&D in our superconductors segment as a result of previous restructuring actions.

SG&A expenses for the fourth quarter of fiscal 2007 were 7.7 million or 20% of revenue. This compares with 5.5 million or 29% of revenue for the fourth quarter of fiscal 2006. The increase in dollars is primarily the result of acquisitions we made in 2007, operating expense growth required for higher revenue levels, and higher stock-based compensation expense.

Looking ahead to fiscal 2008, we expect higher stock compensation expense due in part to our higher stock price. We also expect to continue to grow R&D and SG&A expenses year-over-year as we increase headcount to ramp development activities and effectively manage our growth. However, we expect to increase these expenses in a carefully managed way to maximize operating leverage, resulting in a decrease in aggregated R&D and SG&A expense as a percent of revenue in fiscal 2008 compared to fiscal 2007.

We incurred approximately 500,00 in amortization of acquisition related intangibles related to our acquisitions of Windtec and PQS in 2007. This is down significantly from prior quarters, which is due to the fact that we've almost fully amortized the portion of our Windtec intangibles that was tied to backlog. As a result, intangibles amortization should remain roughly flat in the near term. We also incurred approximately 3.6 million in restructuring and impairment charges in the fourth quarter, compared to 700,000 in the fourth quarter of fiscal 2006. This charge was higher than expected and was due primarily to unforeseen cost related to the cleanup of our Westborough, Massachusetts facility, which we vacated in December. This additional effort to return the building to the landlord in its original condition will not allow us to be able to sublease the space, which we were required to assume under GAAP for purposes of computing the third quarter restructuring charge. As a result, remaining lease expenses that were deferred in the third fiscal quarter in anticipation of a potential sublease were written off in the fourth fiscal quarter.

The total cost of the consolidation of our operations in Massachusetts is now $6.6 million, which is above our previous estimate of 5 to 5.5 million. Further charges related to this restructuring, however, should be minimal. Our operating loss was 2.8 million in the fourth quarter of fiscal 2007, including the restructuring charge. This compares to an operating loss of 6.2 million in the third quarter of fiscal2007 and 11.4 million of fourth quarter of fiscal 2006.

AMSC power systems generated operating income of 6.6 million, or 19% of revenue, in the fourth quarter of fiscal 2007. This compares with an operating profit of 500,000 or 2% of revenue, for the year ago quarter. The improvement in power systems operating income is due to the fall through from higher revenues, as well as favorable foreign exchange effects. AMSC superconductors generated an operating loss of 4.3 million in the fourth quarter of fiscal 2007. This is a significant improvement from an operating loss of 105 million in the fourth quarter of fiscal 2006. The operating loss in the prior year quarter included losses associated with technical issues on 36.5 megawatt program, a write-off of inventory costs for a discontinued project, and restructuring charges associated with consolidating the super machines and AMSC wire segments into AMSC superconductors. Please note that stock compensation expense is not allocated to our reporting segments. On a consolidated basis, we reported a net loss of 1.8 million, or $0.04 a share for the fourth quarter of fiscal 2007. This compares to a loss of 7.3 million, or $0.18 per share in the third quarter, and 11.4 million, or $0.03 per share, in the fourth quarter of fiscal 2006.

In addition to the restructuring charges I mentioned earlier, our net loss also includes non-cash pre-tax charges for amortization of acquisition related intangibles, stock compensation expense, and mark to market adjustments on an outstanding warrant. Such charges totaled 1 million in the fourth quarter of fiscal 2007, compared to 2.1 million for the fourth quarter of fiscal 2006.

To paint a clearer picture of the improvement being made here at AMSC, each quarter we provide a breakout of EBITDAS, as well as forecast for EBITDAS, all of which are reconciled to GAAP in the tables at the end of our earnings press release. For the first time in Company history, AMSC generated EBITDAS positive results in Q4. EBITDAS for the fourth quarter of fiscal 2007 was $ 400,000 which compares with a loss of 1.9 million in the third quarter of fiscal 2007, and a loss of8.7 million in the fourth quarter of fiscal2006.

EBITDAS in all periods also includes the restructuring charges I mentioned a moment ago. I'll now lead you through a brief review of our annual financials. Revenues for the full year of fiscal 2007 were 112.4 million, above our forecasted range of 105 to 110 million, and up from-- and up 115% from52.2 million the prior fiscal year.

Our net loss for full year fiscal 2007 was 25.4 million, or $0.65 per share. This compares favorably with our forecast for a net loss in the range of 27 to 29 million, or $0.69 to $0.74 per share.

For full year fiscal 2006, our net loss was 34.7 million, or $0.04 per share. Net loss for fiscal 2007 included approximately 12.4 million of non-cash pre-tax charges for amortization of acquisition related intangibles, stock compensation, and mark to market adjustments on an outstanding warrant, compared to 4.7 million of such charges for fiscal 2006.

For fiscal 2007, AMSC generated an EBITDAS loss of 9.1 million, well within our forecasted range of an EBITDAS loss of 9 to 11 million. This compares with an EBITDAS loss of 28.1 million for the full year of fiscal 2006.

Turning to the balance sheet, cash, cash equivalents, and marketable securities on December 31, 2007--actually March 31, 2008, were106.2 million, a decrease of 1.6 million from107.8 million at December 31, 2007 of this decrease, about 700,000 of cash was reclassified as restricted cash in the third quarter. Factoring in restricted cash on the balance sheet, our net cash burn for the third quarter was approximately $900,000, our lowest quarterly cash burn since the third quarter of fiscal 2004.

In fiscal 2007, we invested approximately8.6 million in capital, primarily related to our 344 superconductors manufacturing line. We expect to invest between 5 and 7 million of capital in fiscal 2008 related to systems and infrastructure to support our continued growth.

At our Analyst Day in November, we had given our initial outlook for fiscal 2008 saying that we expected to generate more than 150 million in revenues for the year. This morning, we provided more clarity around that figure. We expect revenues for fiscal 2008 to be in the range of 165 to 175 million.

AMSC power systems revenue should represent between 87 and 90% of total sales for the year, compared to approximately 86% for fiscal 2007. In fiscal 2008, we expect that approximately 65 to 70% of our revenues will come from international markets, compared to 74% in fiscal 2007. In fiscal 2008, we expect that 65 to 70% of sales will come from the wind energy market, compared to 70% in fiscal 2007.

Our effective tax rate is not meaningful since we do not record a tax benefit in the U.S. where we have continued--continuing operating losses. However, we report income tax expense in our profitable foreign jurisdictions. This makes giving meaningful guidance on income taxes difficult. As we grow globally, our income tax planning objective is to utilize the net operating losses we have built up in the U.S. by minimizing the income earned in our foreign jurisdictions.

As a result, our goal in fiscal 2008 is to minimize the year-over-year growth in income tax expense. We are forecasting a net loss of 9 to 12 million, or $0.21 to $0.28 per share, for fiscal 2008. And we expect to generate 3 to 7 million in positive EBITDAS for the full fiscal year.

With that, we'll open the call to questions. Dana, would you please provide the instructions.

Question-and-Answer Session

Operator

Thank you, sir. (Operator Instructions.) We'll go first to Carter Shoop of Deutsche Bank.

Carter Shoop

Hey, guys. Good morning.

Greg Yurek

Good morning, Carter.

Carter Shoop

Great quarter. Guidance looks very supportive of the longer trends that you have been seeing. I wanted to ask a couple questions on guidance. And I think you mentioned the percentage of the backlog that could be shipped. So what do we need to see to possibly--to meet '08 guidance here? Do you think that we're going to possibly see some wins on the HTS side, possibly some Entergy -- or do you think it's going to be more on the wind side that will help you meet the full year guidance based on what you already have in the backlog?

Greg Yurek

I think the main contributors for fiscal '08, which we're already a month into, are going to come from the wind and power grid sectors, primarily in power systems. And Carter, you may remember the model we have out there says approximately 90% of our revenues coming from power systems and 10% from superconductors. And Dave just gave you the range of guidance a little bit less than the 90% here, but that's going to be the main contributors. So power systems, wind, and also power grid marketplace. We do expect additional orders coming in on the HTS side, but the lion's share are going to come from power systems.

Operator

And we'll take our next question from Ben Kallo of Stanford Group.

Ben Kallo

Hi, guys. Good morning.

Greg Yurek

Good morning.

Ben Kallo

And thank you for all the detail there. That was very helpful. As far as-- it looks like you're getting a lot of traction obviously in China, but then in India as well. And my first question is do you have plans to have an AMSC India as you do in China? And then, for the guidance I think that I just heard a number that was basically showing a smaller portion of the business coming internationally. So could you just give us an update on how North America's progressing and what's happening there?

Greg Yurek

Sure. We do have plans to expand in India. This has been part of our long-term planning process. As I said, Ghodawat is getting our foot in the door here on the wind side. We're going to first handle our major needs in India I believe out of China, certainly out of the U.S., of course, out of our operations in the U.S., shifting that very rapidly over to supplying product out or our Chinese operations. Again, it's closer, but it's also lower overall cost to do so. And as we grow in India, then we'll look to form an AMSC India as well and we'll tell you more about how that would shape up later this year.

In terms of the percentage of international decreasing a small amount, yes, we think our growth here in the--North America is going to increase and that's obviously what's going to make up the difference here. And where is that going to happen? Primarily, power grid markets in the North American sector. But wind is not slowing down for us. More wind farms are going in and more D-VARs are needed and that's going to be our primary source of additional wind market revenues in North America - that is D-VAR.

Operator

And we'll take our next question from Corey Tobin of William Blair and Company.

Corey Tobin

It's been a good quarter. On quickly on China, what do you estimate the benefit the total corporate gross margin will be from the fact that you've now been shipping manufacturing I should say rather power modules out of China?

David Henry

Hi, Corey. It's Dave. We're not really talking about what we expect the gross margin benefit to be--quantifying it for you. I mean, there are--it's obviously going to be lower cost, but how that lower cost shakes out is yet to be seen because we're still ramping. I mean, we're just really starting production there. And to really see meaningful benefit, we've got to be producing most of our demand in China and that's not going to happen until later this fiscal year. So it's hard to say at this point, but the guidance that we've given reflects whatever improvement we are expecting to see out of China for gross margin.

Greg Yurek

And we do expect to be at that-- we're already at our full monthly production rate right now. So we'll keep ramping and we'll be making additional products in China as the year goes on, coincident with what Dave just said here. But we're simply not giving quantitative guidance on that gross margin at this point.

Operator

And we'll take our next question from Jim Ricchiuti - Needham & Co.

Jim Ricchiuti

Yes, good morning. Congratulations on the quarter.

Greg Yurek

Thanks, Jim.

Jim Ricchiuti

You clearly had a big bookings quarter. Greg, I wonder if you could give us a sense as to how active the pipeline looks for new orders in both parts of the business. And Dave, if you would, I thought you gave gross margin guidance for fiscal '08, but I may have missed it. Would you repeat it, please?

David Henry

Well, my question is easy and I'll answer that first. What we said for fiscal 2008, that we were increasing our target range. Recall back in November at our Analyst Day we kind of said our target range for gross margin was 25 to 30%. We're now increasing that range to be between 30 and 35%. But because of the higher mix of turnkey business expected in power systems, which as you remember is lower margin business--higher revenue, but lower margin business--and also, the fact that we do--we're assuming that the dollar is going to strengthen as we move towards fiscal 2008, we're expect to operate at the lower end of that range--that 30 to 35% range for fiscal 2008.

Greg Yurek

And Jim, on the other part of your question - orders expectations. Obviously, I'll answer you only in general terms here. But it's over different segments, different product lines and solutions. So starting with wind, you know our long-term strategy-- we've said over the last year and a half has been to plant seeds with our AMSC Windtec division that is to license our wind turbine designs or get contracts to design and develop custom systems for new wind turbine manufacturers. And as they go into production, we get the orders for the core electrical systems, and in some cases we also get royalty payments. As we outlined today, we mentioned Ghodawat. They expect to be starting up production in 2009. We talked about Dong Fang. We've already got the first order for their first prototypes and they--their plan is to be in production in '09 Call with ZELRI--CSR-ZELRI, the same thing. And I mentioned Sinovel. We got our order, as you just pointed out, 18 million from Sinovel in March. They're 3 megawatt systems, but they have not and do not plan to stop manufacturing 1.5 megawatt. So we would expect this year to receive an order for calendar '09 for Sinovel's 1.5 megawatt systems. On the D-VAR front, more wind farms are going in around the world and as more go in there are more issues with grid interconnection of these wind farms and our D-VAR is a proven solution around the globe. And we expect more sales orders coming in for the D-VAR from grid interconnection of wind farms. The power grid market, we mentioned SVCs. We'll have our first two systems in later this year and we're actively engaged with utilities certainly in the United States for SVC--potential SVC orders.

But I mentioned also out of our Chinese operation now, we are actively marketing our D-VAR and SVC grid products in China. On the superconductor side, we're also marketing superconductors in China. We already, as we've mentioned in the past, have our partnership with Shanghai Electric Cable in Shanghai, of course, and that's going well. But in the U.S., we also expect additional government contracts will be coming in for further development and demonstration. For example, on the--in the front of 8 to 10 megawatt class superconductor wind generators. So a lot of opportunity out there. We're pursuing it all very aggressively. And I want to emphasize it's not just in North America anymore. Look for us to continue to get orders on the Chinese and Indian wind fronts.

Operator

And we'll take our next question from Stuart Bush of RBC Capital Markets.

Stuart Bush

Good morning, guys.

Greg Yurek

Good morning.

Stuart Bush

I have a question about one of the wind customers that you haven't commented on yet. Earlier this week it seems like a major wind Canadian customer that you have - AAER - that was planning for a significant order flow from the Hydra Quebec project was not selected. Can you comment on why their design was not selected in your order outlook from them?

Greg Yurek

Well, I don't know why their design was not selected for that particular opportunity with Hydra Quebec. That's not our design by the way. The (inaudible) 0.5 megawatt systems that they bid on there, that comes from Fuhrlander. And what they're selling now are Fuhrlander 1.5 megawatt designs. We--and we expect they will continue to sell those in smaller quantities, sort of the 15 megawatt kind of wind farms that's been their primary focus in parallel to their effort to try to get into the Hydra Quebec opportunity.

So when we look at our forecast for this year, we did not have anything in there for AAER getting or participating in the Hydra Quebec opportunity. We do have in there, of course, the orders we already have from them, but those are for smaller wind farms in Canada and in the U.S. And so, I expect they'll continue to grow in that area. And by the way, they're also working in France and the U.K. and the 2 megawatt supergear design that we did license to them. So all the things I was just talking about was us selling electrical components to AAER for the 1.5 megawatt Fuhrlander design, and we expect that to go forward for the smaller wind farms.

The 2 megawatt supergear design we licensed to them last year, I'd expect them to be selling those to first of all probably in France, and I don't see any hold up on that front. So again, our numbers do not include anything for AAER getting Hydra Quebec, so I don't see that affecting us. And by the way, Stuart, from a more -- a broader perspective, not to--that it affects our guidance per se, but I would expect AAER and Lehman Brothers and others that they're involved with to probably challenge that selection process up in Canada. But that's sort of a side issue, not really AMSC related I would say.

Operator

And we'll take our next question from Michael Carboy of Signal Hill.

Michael Carboy

Good morning, ladies and gentlemen. And congratulations also on the great quarter.

Greg Yurek

Thanks Michael.

Michael Carboy

Greg, I'd like you to elaborate a little on the supply chain as it relates to the wind power arena. You're--it sounds like you are forecasting some--or you see some terrific volume growth opportunities. I'm wondering how confident you are that the elements of the supply chain are going to be there to make certain all of these orders sort of unfold on time.

Greg Yurek

Well, let's just focus on where the growth is for fiscal '08. And it's primarily Asia Pacific and it's primarily China for fiscal '08 - Sinovel, Dong Fang, and ZELRI, and primarily Sinovel. And what we do and we're doing right now for Ghodawat in India, is we help them to the supply chain. We're part of that supply chain, so that's good news, of course. But we help them, for example, on generators. We specified three generators that could meet the needs of the particular design they've adopted from us. And we helped them get those suppliers up and running.

However, when we look at a Sinovel or a Dong Fang, the second and third largest wind turbine manufacturers in China, they have baked in, in a sense, their own supply chain. Sinovel makes most of the components for their wind turbines within Dalian heavy industries and Dalian crane works, which they're spun out of. So there are challenges there, but they are not anywhere near the magnitude of challenges that we've seen in other parts of the world. And by the way, the Chinese are--have opened up the doors a bit to more components coming in from overseas into China. But I've also seen that they feel pretty comfortable about this, because they're now starting to shut those doors to outside suppliers by putting tariffs on those outside component suppliers. So in China with that huge growth, I think it's going to primarily come from within China as we go over the next years.

Michael Carboy

Terrific, thanks.

Operator

And we'll take our next question from Walter Nasdeo of Ardour Capital.

Robert Lahey

Good morning. This is Robert Lahey speaking on behalf of Walter.

Greg Yurek

Hi Robert.

Robert Lahey

Could you give me a real quick headcount for the Company, and then if possible one for AMSC China?

David Henry

We have about 380 employees through the end of the year. And as Greg mentioned in his remarks, about 75 of those are in China.

Operator

And we'll take our next question from Pavel Molchanov of Raymond James.

Pavel Molchanov

Good morning, guys. As everybody has said, excellent results.

Greg Yurek

Thanks Pavel.

Pavel Molchanov

A question on your contract with Ghodawat Industries. This is your--as I understand, your first floor into India. Can you just talk about how you chose the--your customer as your initial means of entering that market? I'm assuming you have--you had other alternatives. What made you pick these guys?

Greg Yurek

Yes, that's a great question. We actually had 13 potential customers in China - or excuse me, in India, that wanted to our first--be the first to license our technology - 13 of them. We went through a detailed selection process where we analyzed the financials of these companies, we hired a consultant we know well over in India to help on that, we had visits to the companies. What kind of assets do they really have? What kind of capabilities do they have? So we went through a pretty thorough due diligence process. And Ghodawat let's say was the winner for our first licensee in India.

Having said that, going through that whole process gives us a lot of information on who's going to be number two or three over in India. But I want to let you know that--I guess that we didn't just pull this one out of the air by any stretch of the imagination.

Operator

And we'll take our next question from Brian Yerger of Jesup and Lamont.

Brian Yerger

Good morning gentlemen, thanks for taking my call.

Greg Yurek

Sure.

Brian Yerger

Just following up on Pavel's question, how do you see your strategy for your India penetration in terms of number of people on the ground and how you might serve that market with power modules possibly coming out of China?

Greg Yurek

Look, the first thing we'll be doing there is a regional sales hub, to be more specific about it. I mean, that's just the natural evolution and maybe it's not obvious to everybody. But we're right there on the ground working with Ghodawat helping them to localize their supply chain and so forth. As we mentioned, we helped them through the development, get up their first prototype 1.65 megawatt wind turbine. So it's a very close interactive process. And the people from AMSC come from Austria, they come from Wisconsin, wherever we need to get the experts to help in that process. As we go--as they go into production and our orders ramp up from them, given what we said that's going on in China, with AMSC China, we're going to be making most of our power model 1000 units in AMSC China.

We're already at our monthly capacity right now. And we would expect to ship the first power modules right out of AMSC China over to Ghodawat. As we shift over to our PM3000s, which we had in an earlier call forecasted we would introduce PM3000s late in fiscal 2008, we'd expect to ramp up production of PM3000s. in China. We'll start production, of course, in our Wisconsin operations you have China and it's about a 354, 375-mile flight from Shanghai to New Delhi. It's not that far away. So that's the obvious thing to do - work on--set up a regional sales hub in India in the meantime. And then, from that nucleus, we can examine and look at the possibility of perhaps going into production in India. Quite frankly, we don't have to do that necessarily. We're--I think we're doing extremely well in China and as long as that meets our financial objectives, we'll ship product out of China to India.

Operator

And we'll take our next question from Pete Patterson of Patterson Investments.

Pete Patterson

Good morning, gentlemen.

Greg Yurek

Hay Pete, morning.

Pete Patterson

You guys are almost ready for the Boston Marathon. Congratulations on the major accomplishments. I just wanted to ask you concerning potential motor OEMs, is there some continuing dialogue going on there?

Greg Yurek

Oh, yes. There is definitely continuing dialogue, both with end use customers as well as OEM partners. We haven't given up on motors at all. And keep in mind, we delivered the 36.5 megawatt motor to the Navy about a year ago, actually March of '07, factory-tested. The Navy owns that motor. And their plans are to get through full load testing of that motor sometime late this year. So all those pieces are moving in parallel, Pete, and we'll see where that goes. We're optimistic.

Operator

And we'll take our next question from Carter Shoop of Deutsche Bank.

Carter Shoop

Hi. I want to get a little bit more clarity into Sinovel. I was hoping that you guys could tell us what percentage of sales Sinovel was in fiscal 4Q and what your expectations are for Sinovel percentage of sales in '08?

David Henry

Yes, hi. We--we're not giving specific customer guidance for '08. But for '07 they were 51% of revenue for the full year and 49% for the fourth quarter.

Operator

And we'll go next to Ben Kallo of the Stanford Group.

Ben Kallo

Hey, guys. I just wanted to--maybe you could go through your commodity exposure and how you plan on having an increase in your gross margins even though we have some commodity price increases - what your plans are around those?

Greg Yurek

Yes. I mean, the only real commodity exposure we have is in silver for our 344 superconductor manufacturing process. But compared to what we used to have with the 1G wire, the precious metal component of it is significantly less. So precious metals and commodities are really a de minimis part of our--that have any impact to our gross margin. So we don't really feel we have to do anything special like forward contracts or anything like that to hedge the price of silver because it's not— it's just not a big component of our total manufacturing cost.

Operator

And we'll go next to Jim Ricchiuti of Needham and Company.

Jim Ricchiuti

Hi, guys. I just wanted to go back to your earlier comment on the production line for the wire business. Can you give us some sense as to when you think you might be through these mechanical issues that you've experienced? It sounds like you've made some headway, but not entirely through it.

Greg Yurek

Yes. We're essentially there, Jim. As you go forward, you never know what's going to happen on any given day, of course. But we've identified all the issues here and we have solutions for all those issues. So I don't know, 98-99% of the way there. I don't want to say 100%, but we're essentially there. And so, it's going well.

Operator

And we'll take our final question today from Michael Carboy of Signal Hill.

Michael Carboy

Thank you for the follow up. David, could you elaborate, please, on the amount--the specific amount of gross margin enhancement that arose from foreign exchange? Thank you.

David Henry

For the quarter, the income effect of that was roughly $400,000. So when you look at it for the full year, somewhere in the range of 1 to 2 million. But for the fourth quarter, it was about $400,000.

Operator

And that concludes our question and answer session. I'd like to turn the call back over to Mr. Yurek for any additional or closing remarks.

Greg Yurek

Well, thanks for your great questions. We had a great fourth quarter, as we said, and a terrific fiscal year 2007. And as we mentioned several times throughout this call, fiscal 2008 is going to be a great one. So we're looking forward to it and getting back to you on the next earnings call. Thanks.

Operator

And that does conclude today's conference call. Thank you for your participation. You may disconnect at this time.

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Source: American Superconductor Inc. Q4 2008 Earnings Call Transcript
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