We are an applied technology and advanced materials company. We are a leader in the commercialization of carbon fiber through our development of a price-competitive, high-performance reinforcement for composites used in a broad range of commercial products which we sell under the Panex® trade name. In addition to manufacturing carbon fiber, we produce an intermediate product, a stabilized and oxidized acrylic fiber used in flame- and heat-resistant applications which we sell under the Pyron® trade name.
We led the development of the carbon fiber commercialization concept and we believe we are the largest manufacturer primarily focused on producing low-cost carbon fibers for commercial applications. Our mission has been to introduce and lead the commercialization of carbon fibers as a low-cost but high performance reinforcement of composites used as a primary building material in everyday products. We have spent over 15 years developing and refining our proprietary technology and manufacturing processes and capacity. Until fiscal 2004, the high cost of carbon fibers precluded all but the most demanding applications, limiting carbon fiber use primarily to aerospace and sporting goods applications. While the basic technology to manufacture commercial and aerospace carbon fibers is the same and fiber-to-fiber properties are equivalent, demands for specific fabrication methods, significantly higher capital requirements, level of quality documentation and certification costs make the aerospace fibers significantly more costly to produce than carbon fiber suitable for commercial applications.
For years prior to fiscal 2004, as additions of new capacity occasionally outpaced demand from aerospace applications, manufacturers sold excess production at reduced prices into specialty sporting goods and industrial applications. As a result, the distinctive characteristics of carbon fiber and the techniques for fabricating carbon fiber composites became more broadly understood and some new and diverse transitional applications developed. However, our financial results were adversely affected by predatory pricing by the incumbent carbon fiber producers and by industry oversupply conditions which inhibited adoption of carbon fibers for non-aerospace applications as existing and potential customers were reluctant to commit to incorporate carbon fiber composites into their products due to concerns about the availability of carbon fiber in large volumes at predictable prices.
During 2005 and 2006, Airbus and Boeing initiated production of new generation aircraft utilizing carbon fiber composites in critical airframe structures (e.g., fuselage and wings). We believe the demand for carbon fibers for these programs absorbed the substantial majority of capacity of manufacturers for aerospace applications. At about the same time, the adoption of carbon fibers in longer wind turbine blades created a new demand for commercial carbon fibers. This triggered a significant divergence of demand for carbon fibers between aerospace and commercial applications.
The divergence in the aerospace and commercial applications led in fiscal 2006 and 2007 to strains in our ability to meet all the demand from our wind energy customers and we were unable to take on new customers. When we were capacity-constrained, potential customers understandably would not commit to new large-scale applications without demonstrated assurance of adequate future supplies. In view of the supply shortages, we embarked on an expedited capacity expansion which now has been largely completed. As a result we currently have sufficient capacity to meet demand from current wind energy customers and produce carbon fibers for additional large-scale applications. At the same time, manufacturers of carbon fibers for aerospace applications added substantial capacity to meet demand for aircraft production.
During fiscal 2009, the commercial carbon fibers markets we serve have been negatively impacted by the recessionary economic conditions in the United States and international economies, including a sudden, but we believe only temporary, slowdown in the growth of wind turbine business. At the same time, there were unexpected delays in the introduction of new jetliners utilizing aerospace carbon fibers that resulted in a significant decrease in the aerospace market demand. This factor, as well as substantial increases in installed capacity for both aerospace and commercial carbon fibers, led to an increase in price and sales competition between aerospace and commercial carbon fiber manufacturers, particularly in certain cross-over applications (e.g., sporting goods) for which either aerospace or commercial carbon fibers may be utilized. While this situation has negatively impacted our financial results, we plan to be ready to respond to anticipated accelerating demand on a scale we experienced in the 2005 to 2006 time period. We are also maintaining our available unused capacity in a ready mode to avoid the kind of difficulties and delays in reacting to new orders that we experienced in 2005 and 2006.
We are aggressively marketing to obtain new business in existing applications and new customers in new applications. New applications tend to require relatively long sales cycles due to the new product development and manufacturing and engineering investments customers must make to incorporate carbon fiber composites into their products. During 2009, we have added additional sales personnel in Asia, focusing on markets in China, India and Korea and have begun to see some success through new customers and sales in those regions. We expect our market development efforts will be successful over the long run.
In addition to the adverse impact of the global economic downturn, four other key factors led to declines in our revenues, operating earnings and margins. First, after years of growing at a 20-25% annual rate, worldwide growth in electricity generation from wind energy has slowed to an estimated 10%. Second, price decreases caused approximately 25% of our revenue decline. Decreases in raw material and energy costs were passed along to customers through prices reductions; however, market pressure from lower customer demand forced price decreases to exceed the cost savings. Third, currency fluctuations caused approximately 20% of our decline in revenue. Fourth, available unused capacity, as discussed under “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” was responsible for $7.4 million in unallocated costs (including depreciation) during the fiscal year, without contributing to revenues or gross profit. While Zoltek is confident that the additional capacity will be quickly absorbed as soon as the wind energy business returns to a more robust growth rate and new customers and applications develop, available unused capacity will continue to negatively impact gross margins and operating income. We could take steps to significantly reduce these charges in the future, but we view this as an investment in maintaining our facilities and core staff in a ready mode to minimize the cost and time to restart facilities as the market conditions change.
In order to manage our business, we track it in three separate business segments: carbon fiber segment, technical fiber segment and corporate/other segment, which consists of ancillary activities not directly related to the carbon fiber or technical fiber segments.
Our business model focuses on low and sustainable pricing facilitated by low production costs, rapidly scalable capacity and a product line that offers various value-added product and process enhancements.
The principal elements of our business strategy include the following:
Sustainable Price Leadership. We market carbon fibers for use as a base reinforcement material in composites at sustainable price levels resulting in predictable composite costs per unit of strength and stiffness that compare favorably with alternative base construction materials. We believe our proprietary process and equipment design technology enable us to produce carbon fibers at costs substantially lower than those generally prevailing in the industry and to supply carbon fibers for applications that are not economically viable for our higher-cost competitors. We believe that, with our targeted cost structure, we can maintain sustainable pricing that makes it attractive for customers to commit to high-volume applications.
Support New Commercial Markets and Applications Development. To further accelerate the commercialization of carbon fibers and carbon fiber composites across a broad range of mass-market applications, we have pursued various initiatives, including partnerships with potential users of carbon fibers to act as catalysts in the development of new low-cost, high-volume products. We believe that our supply relationships with customers for wind energy applications are the direct result of these development efforts.
During September 2009, the Company announced that it entered into a one year technology and marketing agreement with Global Blade Technology, which we expect to accelerate adoption of carbon fibers as wind turbine blade lengths continue to increase. Zoltek and GBT are joining forces to accelerate the design and manufacture of advanced wind turbine blades utilizing Zoltek carbon fibers. GBT offers design, engineering, prototype development, testing and manufacturing assistance for new and existing wind turbine and independent turbine blade manufacturers. We also believe that research and development expenditures will be the primary means by which we can facilitate new product applications.
Capacity Leadership to Keep Pace with Long-Term Demand Growth. We believe that our decision to build and maintain significant available capacity will allow us the ability to enter into additional long-term supply arrangements with high-volume customers. We have developed, and are continually seeking to improve, proprietary continuous carbonization line designs in order to increase efficiency and shorten lead time from the time of the decision to add lines to the time when the lines become operational. In addition, we have continuously improved our ability to produce acrylic fiber precursor at low costs and in sufficient quantities to support our growth in carbon fiber capacity. The ability to increase capacity in response to the growth of the commercial markets is essential to encouraging development of large-volume applications.
Develop Model for Long-Term Joint Ventures with Strategic Partners. Our industry currently has no established means for supplying identified large scale applications for which carbon fiber composites have been proven to offer transformational technology, such as structural use in mass produced cars to increase fuel efficiency through reduced weight and improved safety due to superior strength and stiffness. Accordingly, Zoltek is seeking to leverage its proprietary expertise by developing a business model with the goal of proliferating carbon fiber technology to new customers in capital intensive industries who would partner with us to invest in the plants necessary to launch these high volume applications. Although we expect it will take some time and our approach will evolve to address opportunities as they develop, we believe this strategy can support a quantum leap in the commercial carbon fiber industry.
We have identified emerging applications for our products with high growth potential across a variety of industries. Among them are:
According to the Global Wind Energy Council (GWEC), the total market for wind turbines was worth around 36.5 billion Euros ($51.5 billion U.S. dollars) in 2008. GWEC predicts that in 2013, five years from now, global wind generating capacity will stand at 332 GW, up from 120 GW at the end of 2008. GWEC also predicts that during 2013, 56.3 GW of new capacity will be added to the global total, more than double the annual market in 2008. According to the GWEC, the annual growth rates during this period will average 22.4% in terms of total installed capacity, and 15.8% for the annual market. These rates are modest compared to past developments: in the past ten years, published sources have reported an average increase of 28.2% for total capacity and 28.3% for annual capacity.
Zoltek continues to be the leading supplier of the low-cost, high-performance carbon fibers used in building the largest and most advanced wind turbines. As the blades on new wind turbines get larger, the use of carbon fibers improves performance and reduces manufacturing costs. Zoltek believes that at some point all major turbine manufacturers will require carbon fibers.
Deep Sea Drilling
As the price of oil on the world market continues to fluctuate, oil exploration companies are striking out into deepwater, developing reserves beneath the ocean floor a mile or more below the water’s surface. As a result, demand for strong yet lightweight materials able to stand up to the harsh subsea environment has spiked, with a corresponding peak of interest in composites. In a successful demonstration project with a major producer of deep sea drilling platforms, composite rods utilizing our carbon fibers in fabrication of umbilical products were found to deliver equal or superior performance at affordable cost, compared to composite rods utilizing aero-space grade carbon fibers. The composite rods are designed to demonstrate the ability to succeed where steel cables begin to fail — in counteracting the greater axial loads encountered in ultra deepwater, meaning depths exceeding 8,000 feet. At these depths, steel is subject to deformation or stretching. Additional test projects are being planned to demonstrate the effectiveness of carbon fibers in other deep sea drilling applications.
Aerospace Secondary Structures
Zoltek is actively pursuing a new market with large-volume potential: sales of carbon fiber to leading airplane makers for use in secondary structures such as floors, luggage bins and seats. We believe airplane manufacturers are concerned about future availability and pricing of large quantities of carbon fibers, as all newly designed commercial planes will incorporate extensive utilization of carbon fiber composites. Zoltek can offer considerably lower cost structures than the manufacturers of aerospace-grade carbon fibers and we also have the competitive advantage of being able to deliver large volumes of carbon fibers on a timely basis. Airplane makers are looking for every possible opportunity to reduce fuel burn by eliminating weight, but they are also concerned about their competitive position. They have already turned to carbon fiber for making the flight-worthy primary structures of their most advanced airplanes, and now they are searching for ways to make other structures out of super-lightweight carbon fiber.
Zoltek believes automotive applications are destined to become the largest user of carbon fibers. For years there has been an upward trend in the use of carbon fiber reinforced composites in the manufacture of small-volume and many times hand-made cars. Examples include the Tesla which uses Zoltek fibers for the entire car and Corvette which use Zoltek carbon fibers for a few special parts. While these applications have been growing steadily, the real explosion in demand will come from expanded adaptation of carbon fiber composites into large scale series models produced on an assembly line.
We believe our Technical Fibers segment is the largest supplier of oxidized and carbon fibers to the leading manufacturers of aircraft brakes. A substantial majority of commercial and defense aircraft has incorporated carbon-carbon brakes into their design due to their superior heat resistance, friction properties and light weight. This business should continue to afford a steady revenue stream with significant growth potential.
In the fiscal years 2009, 2008 and 2007, we reported net sales of $74.2 million, $75.1 million and $49.9 million, respectively, to Vestas Wind Systems, a leading wind turbine manufacturer, which represented 53.6%, 40.4% and 33.0% of our net sales, respectively, during such periods. The related open accounts receivable balance at September 30, 2009 and 2008 were $21.1 million and $17.2 million, respectively. The Company reported net sales of $24.6 million and $25.1 million in fiscal 2008 and 2007, respectively, to Gamesa Group, another leading wind turbine manufacturer, which represented 13.3% and 16.6% of our net sales, respectively, during such fiscal years. These were the only customers that represented greater than 10% of consolidated net sales during these years.
Sales of our products are generally made pursuant to customer purchase orders. In recent years, our customers have increasingly demanded shorter order lead times and “just-in-time” delivery performance. While we have many multi-year contracts with our major customers, most of these contracts specify the customers’ requirements that will be supplied by us and the terms under which the sales will occur, not the specific quantities to be procured. As a result, twelve-month order backlog is not a meaningful indicator of future revenues for us.
We have manufacturing plants in Nyergesujfalu, Hungary, Guadalajara, Mexico, Abilene, Texas and St. Charles, Missouri. Our plant in Hungary is our major carbon fiber manufacturing facility. Our Hungarian plant also manufactures acrylic fiber precursor, the raw material that we use to make carbon fibers and oxidized fibers. Our Texas plant houses carbon fiber manufacturing lines and value-added processing capabilities. Our Missouri plant is primarily dedicated to the production of technical fibers for aircraft brake and other friction applications and also produces limited amounts of carbon fibers and houses a research and development facility. In addition, we have facilities in Salt Lake City, Utah where we design and build composite manufacturing equipment and can produce resin pre-impregnated carbon fibers, called prepregs.
Our facility in Guadalajara, Mexico was acquired in October 2007. We expect it will supply our North American operations with low-cost precursor and will serve as an additional site for carbon fiber production. The first phase of retrofitting the Mexican acrylic precursor plant and installation of carbon fibers lines has been completed, but the plant has delayed initiating production pending resumption of demand. The Mexico plant, which we expect will eventually be our largest facility, will substantially increase our capacity to produce low-cost carbon fibers on a timely and cost-effective basis, and further extended our leadership in the growing commercial carbon fibers sector.