Item 1B.
UNRESOLVED STAFF COMMENTS
None.
The following is a summary of our offices and locations:
(1) The Company is expanding the Torrington facility by adding an additional 102,000 square feet. See Note 10 of the Notes to Consolidated Financial Statements for additional information.
(2) In November 2015, this lease was extended until December of 2030, with the option to extend for three additional five-year periods thereafter.
(3) This lease includes unlimited six-month extension options.
Item 3.
Item 3.
LEGAL PROCEEDINGS
We are involved in legal proceedings, claims and litigation arising out of the ordinary conduct of our business. Although we cannot assure the outcome, management presently believes that the result of such legal proceedings, either individually, or in the aggregate, will not have a material adverse effect on our consolidated financial statements, and no material amounts have been accrued in our consolidated financial statements with respect to these matters.
PART II
Item 5.
Item 5.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
FuelCell Common Stock
Our common stock has been publicly traded since June 25, 1992. Our common stock trades under the symbol “FCEL” on the Nasdaq Global Market. The following table sets forth the high and low sale prices for our common stock for the fiscal periods indicated as reported by the Nasdaq Global Market during the indicated quarters.
On December 3, 2015, we effected a 1-for-12 reverse stock split, reducing the number of our common shares outstanding from 314.5 million shares to approximately 26.2 million shares. Concurrently with the reverse stock split, the number of authorized shares of our common stock was reduced proportionately, from 475 million shares to 39.6 million shares. In April 2016, the number of authorized shares of the Company's common stock was increased from approximately 39.6 million to 75.0 million by vote of a majority of the Company's security holders.
Additionally, the conversion price of our Series B Preferred Stock, and the exchange price of our Series 1 Preferred Shares, the exercise price of all outstanding options and warrants, and the number of shares reserved for future issuance pursuant to our equity compensation plans were all adjusted proportionately to the reverse stock split.
The following table has been retroactively adjusted to give effect to the reverse stock split.
In April 2016, the number of authorized shares of the Company's common stock was increased from approximately 39.6 million to 75.0 million by vote of a majority of the Company's security holders.
On December 30, 2016, the closing price of our common stock on the Nasdaq Global Market was $1.75 per share. At December 30, 2016, there were 169 holders of record of our common stock. This does not include the number of persons whose stock is in nominee or “street” name accounts through brokers.
We have never paid a cash dividend on our common stock and do not anticipate paying any cash dividends on common stock in the foreseeable future. In addition, the terms of our Series B preferred shares prohibit the payment of dividends on our common stock unless all dividends on the Series B preferred stock have been paid in full.
Performance Graph
The following graph compares the annual change in the Company’s cumulative total stockholder return on its Common Stock for the five years ended October 31, 2016 with the cumulative stockholder total return on the Russell 2000 Index and a peer group consisting of Standard Industry Classification (“SIC”) Group Code 3690 companies listed on the Nasdaq Global Market and New York Stock Exchange for that period (“Peer Index”). It assumes $100 invested on October 31, 2011 with dividends reinvested.
* The following graph compares the annual change in the Company's cumulative total stockholder return on its Common Stock for the five fiscal years ended October 31, 2016 with the cumulative stockholder total return on the Russell 2000 Index, a peer group consisting of Standard Industry Classification ("SIC) Group Code 369 companies listed on the Nasdaq Global Market and New York Stock Exchange and a customized 17 company peer group.
Series 1 Preferred Shares
We have 1,000,000 Series 1 Preferred Shares issued and outstanding. The Series 1 Preferred Shares were issued by FCE Ltd., one of our wholly-owned subsidiaries. We have guaranteed the obligations of FCE Ltd. under the Series 1 Preferred Shares.
On March 31, 2011, the Company entered into an agreement with Enbridge to modify the provisions of the Series 1 Preferred Shares of FCE Ltd. Enbridge is the sole holder of the Series 1 Preferred Shares. Consistent with the previous Series 1 preferred share agreement, FuelCell Energy continues to guarantee the return of principal and dividend obligations of FCE Ltd. to the Series 1 preferred shareholders under the modified agreement.
The terms of the Series 1 Preferred Shares require (i) annual dividend payments of Cdn. $500,000 and (ii) annual return of capital payments of Cdn. $750,000. These payments commenced on March 31, 2011 and will end on December 31, 2020. Dividends accrue at a 1.25% quarterly rate on the unpaid principal balance, and additional dividends will accrue on the cumulative unpaid dividends (inclusive of the Cdn. $12.5 million unpaid dividend balance as of the modification date) at a rate of 1.25% per quarter, compounded quarterly. On December 31, 2020 the amount of all accrued and unpaid dividends on the Series 1 Preferred Shares of Cdn. $21.1 million and the balance of the principal redemption price of Cdn. $4.4 million shall be paid to the holders of the Series 1 Preferred Shares. FCE Ltd. has the option of making dividend payments in the form of common stock or cash under the Series 1 Preferred Shares provisions.
In addition to the above, the significant terms of the Series 1 Preferred Shares include the following:
•
Voting Rights -The holders of the Series 1 Preferred Shares are not entitled to any voting rights.
•
Dividends - Dividend payments can be made in cash or common stock of the Company, at the option of FCE Ltd., and if common stock is issued it may be unregistered. If FCE Ltd. elects to make such payments by issuing common stock of
the Company, the number of common shares is determined by dividing the cash dividend obligation by 95% of the volume average price in US dollars at which board lots of the common shares have been traded on NASDAQ during the 20 consecutive trading days preceding the end of the calendar quarter for which such dividend in common shares is to be paid converted into Canadian dollars using the Bank of Canada’s noon rate of exchange on the day of determination.
•
Redemption - The Series 1 Preferred Shares are redeemable by FCE Ltd. for Cdn. $25 per share less any amounts paid as a return of capital in respect of such share plus all unpaid dividends and accrued interest. Holders of the Series 1 Preferred Shares do not have any mandatory or conditional redemption rights.
•
Liquidation or Dissolution - In the event of the liquidation or dissolution of FCE Ltd., the holders of Series 1 Preferred Shares will be entitled to receive Cdn. $25 per share less any amounts paid as a return of capital in respect of such share plus all unpaid dividends and accrued interest. The Company has guaranteed any liquidation obligations of FCE Ltd.
•
Exchange Rights - A holder of Series 1 Preferred Shares has the right to exchange such shares for fully paid and non-assessable common stock of the Company at the following exchange prices (after giving effect to the December 3, 2015 reverse stock split):
•
Cdn. $1,664.52 per share of our common stock after July 31, 2015 until July 31, 2020; and
•
at any time after July 31, 2020, at a price equal to 95% of the then current market price (in Cdn.$) of shares of our common stock at the time of conversion.
For example, assuming the holder of the Series 1 preferred shares exercises its conversion rights after July 31, 2020 and assuming our common stock price is $3.35 (our common stock closing price on October 31, 2016) and an exchange rate of U.S. $1.00 to Cdn.$1.34 (exchange rate on October 31, 2016) at the time of conversion, we would be required to issue approximately 1,042,000 shares of our common stock.
Series B Preferred Stock
We have 250,000 shares of our 5% Series B Cumulative Convertible Perpetual Preferred Stock (Liquidation Preference $1,000) (“Series B Preferred Stock”) authorized for issuance. At October 31, 2016 and 2015, there were 64,020 shares of Series B Preferred Stock issued and outstanding. The shares of our Series B Preferred Stock and the shares of our common stock issuable upon conversion of the shares of our Series B Preferred Stock are covered by a registration rights agreement. The following is a summary of certain provisions of our Series B Preferred Stock.
Ranking
Shares of Series B Preferred Stock rank with respect to dividend rights and rights upon our liquidation, winding up or dissolution:
•
senior to shares of our common stock;
•
junior to our debt obligations; and
•
effectively junior to our subsidiaries’ (i) existing and future liabilities and (ii) capital stock held by others.
Dividends
The Series B Preferred Stock pays cumulative annual dividends of $50 per share which are payable quarterly in arrears on February 15, May 15, August 15 and November 15. Unpaid accumulated dividends do not bear interest.
The dividend rate is subject to upward adjustment as set forth in the Certificate of Designation if we fail to pay, or to set apart funds to pay, any quarterly dividend. The dividend rate is also subject to upward adjustment as set forth in the Registration Rights Agreement entered into with the Initial Purchasers if we fail to satisfy our registration obligations with respect to the Series B Preferred Stock (or the underlying common shares) under the Registration Rights Agreement.
No dividends or other distributions may be paid or set apart for payment on our common shares (other than a dividend payable solely in shares of a like or junior ranking) unless all accumulated and unpaid Series B Preferred Stock dividends have been paid or funds or shares of common stock have been set aside for payment of accumulated and unpaid Series B Preferred Stock dividends.
The dividend on the Series B Preferred Stock may be paid in cash; or at the option of the Company, in shares of our common stock, which will be registered pursuant to a registration statement to allow for the immediate sale of these common shares in the public market. Dividends of $3.2 million were paid in each of the years ended October 31, 2016, 2015 and 2014. There were no cumulative unpaid dividends at October 31, 2016 and 2015.
Liquidation
The Series B Preferred Stock stockholders are entitled to receive, in the event that we are liquidated, dissolved or wound up, whether voluntarily or involuntarily, $1,000 per share plus all accumulated and unpaid dividends to the date of that liquidation,
dissolution, or winding up (“Liquidation Preference”). Until the holders of Series B Preferred Stock receive their Liquidation Preference in full, no payment will be made on any junior shares, including shares of our common stock. After the Liquidation Preference is paid in full, holders of the Series B Preferred Stock will not be entitled to receive any further distribution of our assets. At October 31, 2016 and 2015, the Series B Preferred Stock had a Liquidation Preference of $64.0 million.
Conversion Rights
Each Series B Preferred Stock share may be converted at any time, at the option of the holder, into 7.0922 shares of our common stock, which is equivalent to an initial conversion price of $141.00 per share plus cash in lieu of fractional shares. The conversion rate is subject to adjustment upon the occurrence of certain events as described in the Certificate of Designation. The conversion rate is not adjusted for accumulated and unpaid dividends. If converted, holders of Series B Preferred Stock do not receive a cash payment for all accumulated and unpaid dividends; rather, all accumulated and unpaid dividends are canceled.
We may, at our option, cause shares of Series B Preferred Stock to be automatically converted into that number of shares of our common stock that are issuable at the then prevailing conversion rate. We may exercise our conversion right only if the closing price of our common stock exceeds 150% of the then prevailing conversion price ($141 at October 31, 2016) for 20 trading days during any consecutive 30 trading day period, as described in the Certificate of Designation.
Redemption
We do not have the option to redeem the shares of Series B Preferred Stock. However, holders of the Series B Preferred Stock can require us to redeem all or part of their shares at a redemption price equal to the Liquidation Preference of the shares to be redeemed in the case of a “fundamental change” (as described in the Certificate of Designation).
We may, at our option, elect to pay the redemption price in cash or, in shares of our common stock valued at a discount of 5% from the market price of shares of our common stock, or any combination thereof. Notwithstanding the foregoing, we may only pay such redemption price in shares of our common stock that are registered under the Securities Act of 1933 and eligible for immediate sale in the public market by non-affiliates of the Company.
Voting Rights
Holders of Series B Preferred Stock currently have no voting rights; however, holders may receive certain voting rights, as described in the Certificate of Designation, if (1) dividends on any shares of Series B Preferred Stock, or any other class or series of stock ranking on a parity with the Series B Preferred Stock with respect to the payment of dividends, shall be in arrears for dividend periods, whether or not consecutive, for six calendar quarters or (2) we fail to pay the redemption price, plus accrued and unpaid dividends, if any, on the redemption date for shares of Series B Preferred Stock following a fundamental change.
So long as any shares of Series B Preferred Stock remain outstanding, we will not, without the consent of the holders of at least two-thirds of the shares of Series B Preferred Stock outstanding at the time (voting separately as a class with all other series of preferred stock, if any, on parity with our Series B Preferred Stock upon which like voting rights have been conferred and are exercisable) issue or increase the authorized amount of any class or series of shares ranking senior to the outstanding shares of the Series B Preferred Stock as to dividends or upon liquidation. In addition, we will not, subject to certain conditions, amend, alter or repeal provisions of our certificate of incorporation, including the Certificate of Designation relating to the Series B Preferred Stock, whether by merger, consolidation or otherwise, so as to adversely amend, alter or affect any power, preference or special right of the outstanding shares of Series B Preferred Stock or the holders thereof without the affirmative vote of not less than two-thirds of the issued and outstanding Series B Preferred Stock shares.
Equity Compensation Plan Information
See Part III, Item 12 for information regarding securities authorized for issuance under our equity compensation plans.
Item 6.
Item 6.
SELECTED FINANCIAL DATA
The selected consolidated financial data presented below as of the end of each of the years in the five-year period ended October 31, 2016 have been derived from our audited consolidated financial statements together with the notes thereto included elsewhere in this annual report on Form 10-K. The data set forth below is qualified by reference to, and should be read in conjunction with our consolidated financial statements and their notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this annual report on Form 10-K.
Consolidated Statement of Operations Data:
(Amounts presented in thousands, except for per share amounts)
Consolidated Balance Sheet Data:
(Amounts presented in thousands, except for per share amounts)
(1)
Includes short-term and long-term restricted cash and cash equivalents.
(2)
Calculated as total equity (deficit) divided by common shares issued and outstanding as of the balance sheet date.
Item 7.
Item 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with information included in Item 8 of this report. Unless otherwise indicated, the terms “Company”, “FuelCell Energy”, “we”, “us”, and “our” refer to FuelCell Energy, Inc. and its subsidiaries. All tabular dollar amounts are in thousands.
In addition to historical information, this discussion and analysis contains forward-looking statements. All forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected. Factors that could cause such a difference include, without limitation, the risk that commercial field trials of our products will not occur when anticipated, general risks associated with product development and manufacturing, changes in the utility regulatory environment, potential volatility of energy prices, rapid technological change, competition, market acceptance of our products and our ability to achieve our sales plans and cost reduction targets, as well as other risks set forth in our filings with the Securities and Exchange Commission including those set forth under Item 1A - Risk Factors in this report.
On December 3, 2015, we effected a 1-for-12 reverse stock split, reducing the number of our common shares outstanding on that date from 314.5 million shares to approximately 26.2 million shares. Concurrently with the reverse stock split, the number of authorized shares of our common stock was reduced proportionately, from 475 million shares to 39.6 million shares. Additionally, the conversion price of our Series B Preferred Stock, and the exchange price of our Series 1 Preferred Shares, the exercise price of all outstanding options and warrants, and the number of shares reserved for future issuance pursuant to our equity compensation plans were all adjusted proportionately to the reverse stock split. All such amounts presented herein have been adjusted retroactively to reflect these changes.
Overview
We are an integrated fuel cell company with an expanding global presence on three continents. We design, manufacture, sell, install, operate and service ultra-clean, highly efficient stationary fuel cell power plants for distributed power generation. Our power plants provide megawatt-class scalable on-site power and utility grid support, helping customers solve their energy, environmental and business challenges. Our plants are operating in more than 50 locations on three continents and have generated more than 5.6 million megawatt hours (MWh) of electricity, which is equivalent to powering more than 509,000 average size U.S. homes for one year.
We provide comprehensive turn-key power generation solutions to our customers including installation of the power plants as well as operating and maintaining the plants under multi-year service agreements. We target large-scale power users with our megawatt-class installations. As reference, one megawatt is adequate to power approximately 1,000 average sized US homes. Our customer base includes utility companies, municipalities, universities, government entities and businesses in a variety of industrial and commercial enterprises. Our leading geographic markets are South Korea and the United States and we are pursuing expanding opportunities in Asia and Europe.
Our value proposition provides highly efficient and environmentally friendly power generation with easy-to-site stationary fuel cell power plants. The power plants are located in populated areas as they are virtually pollutant free, operate quietly and without vibrations, and have only modest space requirements. Locating the power generation near the point of use provides many advantages including less reliance on or even avoidance of the transmission grid leading to enhanced energy security and power reliability. Our power plants provide electricity priced competitively to grid-delivered electricity in certain high cost regions and our strategy is to continue to reduce costs, which is expected to lead to wider adoption.
We are developing Advanced Technologies which leverage our commercial platform and expertise. Our Direct FuelCell® (DFC®) power plants utilize carbonate fuel cell technology, which is a very versatile type of fuel cell technology. Utilizing our core DFC plants, we have developed and are commercializing both a tri-generation distributed hydrogen configuration that generates electricity, heat and hydrogen for industrial or transportation uses, and a carbon capture application for coal or gas-fired power plants. We also are developing and working to commercialize solid oxide fuel cells (SOFC) for adjacent sub-megawatt applications to the markets for our megawatt-class DFC power plants as well as energy storage applications. These applications are complementary to our core products, leverage our existing customer base, project development, sales and service expertise, and are large markets.
Recent Developments
Restructuring
The Company completed a business restructuring on November 30, 2016 to reduce costs and align production levels with current levels of demand in a manner that is consistent with the Company’s long-term strategic plan.
The Company is reducing materials spend as well as implementing various cost control initiatives. The workforce was reduced at both the North American production facility in Torrington, Connecticut, as well as at corporate offices in Danbury and remote locations. A total of 96 positions, or approximately 17 percent of the global workforce, was impacted. The Company expects that Operating expenses (Administrative and selling, Research and development expenses) will be approximately $6.0 million lower on an annualized basis as a result of personnel reductions and related benefits, as well as lower overhead spending. The production rate has been reduced to 25 megawatts annually, from the prior rate of 50 megawatts annually, in order to position for delays in anticipated order flow. A personnel-related restructuring charge of approximately $3.0 million will be incurred in fiscal year 2017, with approximately one half of the charge composed of cash severance costs and the remainder representing non-cash charges. This production level is anticipated to be temporary and will be reevaluated as order flow dictates, with any future increases being undertaken from what is now a lower cost basis.
Results of Operations
Management evaluates the results of operations and cash flows using a variety of key performance indicators including revenues compared to prior periods and internal forecasts, costs of our products and results of our cost reduction initiatives, and operating cash use. These are discussed throughout the ‘Results of Operations’ and ‘Liquidity and Capital Resources’ sections. Results of Operations are presented in accordance with accounting principles generally accepted in the United States (“GAAP”).
Comparison of the Years Ended October 31, 2016 and 2015
Revenues and Costs of revenues
Our revenues and cost of revenues for the years ended October 31, 2016 and 2015 were as follows:
Total revenues for the year ended October 31, 2016 decreased $54.8 million, or 34%, to $108.3 million from $163.1 million during the same period last year, due primarily to decreased product sales as discussed below. Total cost of revenues for the year ended October 31, 2016 decreased by $41.7 million, or 28%, to $108.6 million from $150.3 million during the same period last year. The Company's gross margin was a loss of 0.3% in fiscal year 2016, as compared to the prior year margin of 7.8%. A discussion of the changes in product sales, service agreement and license revenues, and advanced technologies contract revenues follows. Refer to Critical Accounting Policies and Estimates for more information on revenue and cost of revenue classifications.
Product sales
Our product sales, cost of product sales and gross profit for the years ended October 31, 2016 and 2015 were as follows:
Product sales for the year ended October 31, 2016 included $11.7 million of power plant revenue, $41.8 million from sales of fuel cell kits and $9.1 million of revenue primarily related to power plant component sales and engineering, procurement and construction services (EPC services). This is compared to product sales for the year ended October 31, 2015 which included $19.6 million of power plant revenue, $84.5 million fuel cell kits and module revenue and $24.5 million of revenue primarily from power plant component sales and EPC services. Product sales decreased $66.0 million, or 51%, for the year ended October 31, 2016 to $62.6 million from $128.6 million for the prior year period.
The decline in revenue during the period as compared to the prior year period is due primarily to lower revenue from POSCO Energy due to the transition of the kit and module sales to POSCO Energy to a royalty based model. POSCO Energy has completed
building its manufacturing facility and is manufacturing cell components and modules in South Korea. The Company’s multi-year kit order with POSCO Energy concluded in the fourth fiscal quarter in 2016 and as a result, the Company does not expect to recognize product sales revenue at the levels previously recognized from POSCO Energy. The Company will receive (under Service agreements) license revenues from a 3.0% royalty on POSCO Energy net product sales manufactured in South Korea. We believe that this revenue stream will grow over time as POSCO Energy increases production.
Also contributing to the decline in revenue over the comparable period is certain power plants that are being recognized as Project assets on the balance sheet and accordingly, product and engineering, procurement and construction revenue is not recognized when sales are made. As the Company's development business expands, it is installing power plants for customers that have executed power purchase agreements (PPAs). These assets generally are the subject of sale-leaseback transactions with PNC, which are recorded under the financing method of accounting for a sale-leaseback. Under the finance method, the Company does not recognize the proceeds received from the lessor as a sale of such assets. The power plants are recognized as Project assets on the balance sheet and revenue will be recognized as electricity revenue is earned over the life of the power purchase agreement or when a definitive sales agreement is executed.
With the transition of manufacturing to South Korea in POSCO Energy's manufacturing facility for POSCO Energy’s demand, we expect that production in the Company’s Torrington, CT manufacturing facility will be largely dictated by the demand of the U.S. market. As a result, quarterly revenue will vary depending on the timing and level of demand in the U.S. and the project revenue recognition method.
Cost of product sales decreased $55.1 million for the year ended October 31, 2016, to $63.5 million compared to $118.5 million in the prior year period. The decrease in cost of sales in fiscal 2016 was driven by lower overall product volume during the fiscal year and retention of project assets on balance sheet versus a sale to end customer or investor. Cost of product sales includes costs to design, engineer, manufacture and ship our power plants and power plant components to customers, site engineering and construction costs where we are responsible for power plant system installation, costs for assembly and conditioning equipment sold to POSCO Energy, warranty expense and inventory excess and obsolescence charges.
At October 31, 2016, product sales backlog totaled approximately $24.9 million compared to $90.7 million at October 31, 2015.
Service Agreements and License Revenues and Cost of Revenues
Our service agreements and license revenues and associated cost of revenues for the years ended October 31, 2016 and 2015 were as follows:
Revenues for the year ended October 31, 2016 from service agreements and license fee and royalty agreements totaled $32.8 million, compared to $21.0 million for the prior year. The increase relates primarily to more module exchanges performed in 2016 some of which resulted from service contract extensions for certain projects. Revenue for license fee and royalty agreements totaled $6.2 million and $4.7 million for the years ended October 31, 2016 and 2015, respectively.
Service agreements and license cost of revenues increased to $33.3 million for fiscal year 2016 from $18.3 million for the prior year, resulting in a decrease in gross margin to a loss of 1.5% from a profit of 12.9% during the year-ago period. The decrease in gross margin over the prior year relates to an increase in performance guarantee accruals due to plant performance at certain sites, contract loss accruals recorded in connection with the extension of certain legacy contracts as well as due to changes in estimated costs for certain legacy contracts, and charges incurred in connection with termination of service agreements at certain sites.
At October 31, 2016, service backlog totaled approximately $347.3 million compared to $254.1 million at October 31, 2015. Service backlog does not include future royalties or license revenues. This backlog is for service agreements of up to twenty years and is expected to generate positive margins and cash flows based on current estimates.
Advanced technologies contracts
Advanced technologies contracts revenue and related costs for the years ended October 31, 2016 and 2015 were as follows:
Advanced technologies contracts revenue for the year ended October 31, 2016 was $12.9 million, representing a decrease of $0.5 million when compared to $13.5 million of revenue for the year ended October 31, 2015. Cost of advanced technologies contracts decreased $1.6 million to $11.9 million for the year ended October 31, 2016, compared to $13.5 million for the prior year. Gross profit from advanced technologies contracts for the year ended October 31, 2016 was $1.1 million compared to breakeven for the year ended October 31, 2015, and gross margin was 8.1% compared to breakeven during the prior year period. The increase in gross margin is related to timing and mix of contracts currently being performed, particularly the transition to a larger mix of private industry contracts.
At October 31, 2016, advanced technology contract backlog totaled approximately $60.1 million compared to $36.5 million at October 31, 2015.
Administrative and selling expenses
Administrative and selling expenses were $25.2 million for the year ended October 31, 2016 compared to $24.2 million for the year ended October 31, 2015. The increase results primarily from higher business development costs incurred early in the year. Business development costs may vary from period to period depending on the nature of customer and state-level requests for proposals.
Research and development expenses
Research and development expenses increased $3.4 million to $20.8 million for the year ended October 31, 2016, compared to $17.4 million during the year ended October 31, 2015. The increase in research and development expenses reflects increased research and development activity related to near-term product introductions, including the HEFC. This configuration has an overall electrical efficiency of approximately sixty percent and is designed for utility scale applications and data centers. The first power plant is currently being installed and is expected to be fully operational in fiscal year 2017.
Loss from operations
Loss from operations for the year ended October 31, 2016 was $46.4 million compared to a loss of $28.9 million in for the year ended October 31, 2015, primarily as a result of lower gross margins in fiscal year 2016.
Interest expense
Interest expense for the years ended October 31, 2016 and 2015 was $5.0 million and $3.0 million, respectively. The increase results from borrowings under the Company's new Hercules Loan and Security Agreement, the $10.0 million low-cost loan granted by the State of Connecticut in early 2016, and interest expense related to sales-leaseback transactions recorded under the finance method. The interest expense for both periods includes interest for the amortization of the redeemable preferred stock of a subsidiary fair value discount of $1.8 million.
Other income (expense), net
Other income (expense), net, was other income, net of $0.6 million for the year ended October 31, 2016 compared to other income, net of $2.4 million for the year ended October 31, 2015. Unrealized foreign exchange gains aggregated to $0.1 million and $1.7 million in fiscal year 2016 and 2015, respectively, which primarily related to the preferred stock obligation of our Canadian subsidiary, FCE Ltd. FCE Ltd.'s functional currency is U.S. dollars, while the preferred stock obligation is payable in Canadian dollars. Refundable research and development tax credits for the years ended October 31, 2016 and 2015 were $0.4 million and $0.6 million, respectively.
Provision for income taxes
We have not paid federal or state income taxes in several years due to our history of net operating losses (NOLs), although we have paid income taxes in South Korea. For the year ended October 31, 2016, our provision for income taxes was $0.5 million, compared to $0.3 million in the prior year. We cannot estimate when production volumes will be sufficient to generate taxable domestic income. Accordingly, no tax benefit has been recognized for these net operating losses or other deferred tax assets as significant uncertainty exists surrounding the recoverability of these deferred tax assets.
At October 31, 2016, we had $748.6 million of federal NOL carryforwards that expire in the years 2020 through 2035 and $405.8 million in state NOL carryforwards that expire in the years 2015 through 2035. Additionally, we had $11.1 million of state tax credits available, of which $0.7 million expires in 2018. The remaining credits do not expire.
Net loss attributable to noncontrolling interest
The net loss attributed to the noncontrolling interest for each of the years ended October 31, 2016 and 2015 was $0.3 million. During October 2016, the Company purchased the noncontrolling interest in FuelCell Energy Services, GmbH, from Fraunhofer IKTS, giving the Company sole ownership and eliminating future noncontrolling interest in earnings.
Preferred Stock dividends
Dividends recorded and paid on the Series B Preferred Stock were $3.2 million in each of the years ended October 31, 2016 and 2015.
Net loss attributable to common shareholders and loss per common share
Net loss attributable to common shareholders represents the net loss for the period, less the net loss attributable to noncontrolling interest and less the preferred stock dividends on the Series B Preferred Stock. For the years ended October 31, 2016 and 2015, net loss attributable to common shareholders was $54.2 million and $32.6 million, respectively, and basic and diluted loss per common share was $1.82 and $1.33, respectively.
Comparison of the Years Ended October 31, 2015 and 2014
Revenues and Costs of revenues
Our revenues and cost of revenues for the years ended October 31, 2015 and 2014 were as follows:
Total revenues for the year ended October 31, 2015 decreased $17.2 million, or 10%, to $163.1 million from $180.3 million during the same period last year. Total cost of revenues for the year ended October 31, 2015 decreased by $16.3 million, or 10%, to $150.3 million from $166.6 million during the same period last year. The Company generated a 7.8% gross margin percentage in fiscal year 2015, which is improved from the prior year margin of 7.6% despite lower revenue. A discussion of the changes in product sales, service agreement and license revenues, and advanced technologies contract revenues follows. Refer to Critical Accounting Policies and Estimates for more information on revenue and cost of revenue classifications.
Product sales
Our product sales, cost of product sales and gross profit for the years ended October 31, 2015 and 2014 were as follows:
Product sales for the year ended October 31, 2015 included $19.6 million of power plant revenue, $84.5 million from sales of fuel cell kits and modules and $24.5 million of revenue primarily related to power plant component sales and engineering, procurement and construction services (EPC services). This is compared to product sales for the year ended October 31, 2014 which included $22.2 million of power plant revenue, $95.7 million fuel cell kits and module revenue and $18.9 million of revenue primarily from power plant component sales and EPC services. Product sales decreased $8.2 million, or 6%, for the year ended October 31, 2015 to $128.6 million from $136.8 million for the prior year period. The decline in revenue during the period is due to decreased sales of fuel cell kits to POSCO and power plant revenue partly offset by an increase engineering and construction services.
Cost of product sales decreased $8.3 million for the year ended October 31, 2015, to $118.5 million compared to $126.9 million in the same prior year period. Gross profit increased slightly despite the lower sales volume primarily due to lower warranty and quality expenses. Cost of product sales includes costs to design, engineer, manufacture and ship our power plants and power plant components to customers, site engineering and construction costs where we are responsible for power plant system installation, costs for assembly and conditioning equipment sold to POSCO Energy, warranty expense and inventory excess and obsolescence charges.
At October 31, 2015, product sales backlog totaled approximately $90.7 million compared to $113.1 million at October 31, 2014.
Service Agreements and License Revenues and Cost of Revenues
Our service agreements and license revenues and associated cost of revenues for the years ended October 31, 2015 and 2014 were as follows:
Revenues for the year ended October 31, 2015 from service agreements and license fee and royalty agreements totaled $21.0 million, compared to $26.0 million for the prior year. The decrease was due to the timing of module exchanges during the year
ended October 31, 2015 compared to the prior year period. Revenue for license fee and royalty agreements totaled $4.7 million and $4.3 million for the years ended October 31, 2015 and 2014, respectively.
Service agreements and license cost of revenues decreased to $18.3 million for fiscal year 2015 from $23.0 million for the prior year, resulting in an increase in gross margin to 12.9% from 11.2% during the year-ago period. The increase in gross margin reflects higher margins recognized on new service agreements related to the growing fleet. As profitable megawatt-class service agreements are executed and as early generation sub-megawatt products are retired or become a smaller overall percentage of the installed fleet, we expect the margins on service agreements to continue to increase.
At October 31, 2015, service backlog totaled approximately $254.1 million compared to $196.8 million at October 31, 2014. Service backlog does not include future royalties, license or electricity revenues.
Advanced technologies contracts
Advanced technologies contracts revenue and related costs for the years ended October 31, 2015 and 2014 were as follows:
Advanced technologies contracts revenue for the year ended October 31, 2015 was $13.5 million, representing a decrease of $4.0 million when compared to $17.5 million of revenue for the year ended October 31, 2014. The decrease is primarily attributable to the completion of a data center fuel cell power plant research project. Cost of advanced technologies contracts decreased $3.2 million to $13.5 million for the year ended October 31, 2015, compared to $16.7 million for the prior year. Gross profit from advanced technologies contracts for the year ended October 31, 2015 was breakeven compared to $0.8 million for the year ended October 31, 2014, and gross margin was breakeven compared to 4.7% during the prior year period. The decrease in gross margin is related to the mix of contracts currently being performed which include cost share obligations.
At October 31, 2015, advanced technology contract backlog totaled approximately $36.5 million compared to $24.0 million at October 31, 2014.
Administrative and selling expenses
Administrative and selling expenses were $24.2 million for the year ended October 31, 2015 compared to $22.8 million for the year ended October 31, 2014. The increase results primarily from increased marketing activity and project proposal expenses for multiple power plant installations and advanced technology contracts.
Research and development expenses
Research and development expenses decreased $0.8 million to $17.4 million for the year ended October 31, 2015, compared to $18.2 million during the year ended October 31, 2014. The decrease in research and development expenses resulted from completion of prior year initiatives in enhancing the cost profile of multi-megawatt installations. Decreases were partially offset by increased investment in product development of the high efficiency fuel cell. The Company's internal research and development is focused on initiatives that have near term product introduction potential and product cost reduction opportunities, all of which are expected to expand market opportunities.
Loss from operations
Loss from operations for the year ended October 31, 2015 was $28.9 million compared to a loss of $27.3 million in for the year ended October 31, 2014.
Interest expense
Interest expense for the years ended October 31, 2015 and 2014 was $3.0 million and $3.6 million, respectively. Interest expense for fiscal year 2014 includes interest of $0.4 million associated with 8.0% Unsecured Convertible Notes which were converted to common stock during fiscal year 2014. Interest expense for both periods includes interest for the amortization of the redeemable preferred stock of a subsidiary fair value discount of $1.8 million and $2.0 million, respectively.
Other income (expense), net
Other income (expense), net, was net income of $2.4 million for the year ended October 31, 2015 compared to net expense of $7.5 million for the year ended October 31, 2014. The fiscal year 2015 income includes unrealized foreign exchange gains of $1.7 million which primarily related to the preferred stock obligation of our Canadian subsidiary, FCE Ltd for which the functional currency is U.S. dollars, which is payable in Canadian dollars and refundable research and development tax credits of $0.6 million. The fiscal year 2014 expense includes a charge of $8.4 million related to the make-whole payment upon conversion of $38.0 million of principal of then-existing 8.0% Convertible Notes. The Company primarily used common stock to settle this make-whole obligation.
Provision for income taxes
We have not paid federal or state income taxes in several years due to our history of net operating losses (NOLs), although we have paid income taxes in South Korea. For the year ended October 31, 2015, our provision for income taxes was $0.3 million. We cannot estimate when production volumes will be sufficient to generate taxable domestic income. Accordingly, no tax benefit has been recognized for these net operating losses or other deferred tax assets as significant uncertainty exists surrounding the recoverability of these deferred tax assets.
At October 31, 2015, we had $721.0 million of federal NOL carryforwards that expire in the years 2020 through 2036 and $406 million in state NOL carryforwards that expire in the years 2015 through 2035. Additionally, we had $11.0 million of state tax credits available, of which $1.0 million expires in 2018. The remaining credits do not expire.
Net loss attributable to noncontrolling interest
The net loss attributed to the noncontrolling interest for the years ended October 31, 2015 and 2014 was $0.3 million and $0.8 million, respectively.
Preferred Stock dividends
Dividends recorded and paid on the Series B Preferred Stock were $3.2 million in each of the years ended October 31, 2015 and 2014.
Net loss attributable to common shareholders and loss per common share
Net loss attributable to common shareholders represents the net loss for the period, less the net loss attributable to noncontrolling interest and less the preferred stock dividends on the Series B Preferred Stock. For the years ended October 31, 2015 and 2014, net loss attributable to common shareholders was $32.6 million and $41.3 million, respectively, and basic and diluted loss per common share was $1.33 and $2.02, respectively.
Customer Concentrations
We contract with a concentrated number of customers for the sale of our products and for research and development contracts. Refer to Note 1 of notes to consolidated financial statements for more information on customer concentrations. There can be no assurance that we will continue to achieve historical levels of sales of our products to our largest customers. Even though our customer base is expected to expand, diversifying our revenue streams, a substantial portion of net revenues could continue to depend on sales to a concentrated number of customers. Our agreements with these customers may be canceled if we fail to meet certain product specifications or materially breach the agreements, and our customers may seek to renegotiate the terms of current agreements or renewals. The loss of or reduction in sales to one or more of our larger customers could have a material adverse effect on our business, financial condition and results of operations.
LIQUIDITY AND CAPITAL RESOURCES
At October 31, 2016, we believe that our cash, cash equivalents on hand, cash flows from operating activities, availability under our loan facilities and access to the capital markets will be sufficient to meet our working capital and capital expenditure needs for at least the next twelve months.
Cash and cash equivalents including restricted cash totaled $118.3 million at October 31, 2016 compared to $85.7 million at October 31, 2015. At October 31, 2016, restricted cash and cash equivalents was $34.1 million, of which $9.4 million was classified as current and $24.7 million was classified as non-current, compared to $26.9 million total restricted cash and cash equivalents at October 31, 2015, of which $6.3 million was classified as current and $20.6 million was classified as non-current. In addition, the Company has $38.2 million of availability under its project finance loan agreement with NRG Energy through its finance subsidiary, which can be used for project asset development. We also have an effective shelf registration statement on file with the SEC for issuance of debt and equity securities.
On November 30, 2016 the Company completed a business restructuring to reduce costs and align production levels with current levels of demand in a manner that is consistent with the Company’s long-term strategic plan.
The Company is reducing materials spend as well as implementing various cost control initiatives. The workforce was reduced at both the North American production facility in Torrington, Connecticut, as well as at corporate offices in Danbury and remote locations. A total of ninety-six positions, or approximately seventeen percent of the global workforce, was impacted. In conjunction with the personnel reduction, the Company is implementing other measures to reduce operating costs by at least $6 million on an annualized basis. The production rate has been reduced to twenty-five megawatts annually, from the prior rate of fifty megawatts annually, in order to position for delays in anticipated order flow. A personnel-related restructuring charge of approximately $3.0 million will be incurred in fiscal year 2017, with approximately one half of the charge composed of cash severance costs and the remainder representing non-cash charges. This production level is anticipated to be temporary and will be reevaluated as order flow dictates, with any future increases being undertaken from what is now a lower cost basis.
Project development activities are continuing with proposals being submitted for a utility-scale fuel cell only request for proposal process in New York with decisions expected in the first half of 2017. The Company also hopes to continue to develop and complete utility-scale fuel cell projects in Connecticut under future processes to further the State’s stated critical energy goals. Favorable legislative and regulatory developments in New York and California are expected to be supportive of projects in the Company’s pipeline and the European market is expanding as illustrated by the second utility order for E.On Connecting Energies GMBH which was recently announced by the Company. Fuel cell carbon capture opportunities are advancing with a demonstration project at a utility-owned coal/gas-fired power plant and developing interest from Canadian oil sands operators as demonstrated by a recently announced engineering study.
The Company's future liquidity will be dependent on obtaining a combination of increasing order and contract volumes, increasing cash flows from our power purchase agreement and service portfolios and cost reductions necessary to achieve profitable operations. Management currently estimates that the Company could be net income positive in the range of 60 - 70 MW of annual production volume. This estimate assumes a sales mix of turn-key projects in the U.S. and Europe, royalties from the Asia market and growing service, power purchase agreement and advanced technologies revenues and margins.
Our business model continues to evolve. As a result of the strong, predictable and recurring cash flows of our projects, proliferation of power purchase agreements in the industry and access to capital, the Company has been retaining projects on the balance sheet versus sale to an end customer, investor, utility or YieldCo. This provides the Company with the full benefit of future cash flows under the PPA's. Our operating portfolio (currently 11.2 MW) contributes higher long term cash flows to the Company than if these projects had been sold. The Company plans to continue to grow this portfolio while also selling projects to investors. Retaining long-term cash flow positive PPAs combined with our service fleet reduces reliance on new project sales to achieve cash flow positive operations.
The Company has a contract backlog totaling approximately $432.3 million at October 31, 2016. This backlog includes approximately $347.3 million of service and power purchase agreements, with an average term of approximately 15 years weighted based on dollar backlog and utility service contracts up to twenty years in duration, providing a committed source of revenue to the year 2036. The Company also has a strong sales and service pipeline of potential projects in various stages of development in both North America and Europe. This pipeline includes projects for on-site ‘behind-the-meter’ applications and for grid support multi-megawatt fuel cell parks. Behind-the-meter applications provide end users with predictable long-term economics, on-site power including micro-grid capabilities and reduced carbon emissions. On-site projects being developed are for project sizes ranging from 1.4MW - 14.0 MW for end users such as pharmaceuticals companies, hospitals, and universities. In addition, a
number of multi-megawatt utility grid support projects are being developed for utilities and independent power producers to support the grid where power is needed. Utility scale projects in our pipeline range in size from 5.6 MW up to 63 MW. These projects help both utilities and states meet their renewable portfolio standards.
The Company produced approximately 62 MW during fiscal year 2016 at its production facility in Torrington, Connecticut. This facility is currently producing at an annual rate of 25MW and has an annual manufacturing capacity of 100 MW under its current configuration. At October 31, 2016, our backlog of future production for existing product sales, service and power purchase agreements is approximately 102.8 MW for the U.S. and European markets. We expect approximately 13 MW to be delivered over the next twelve months. The Company is targeting converting at least 70 MW of our sales pipeline into incremental backlog in 2017 in order to deploy inventory and project assets as well as utilize our available capacity. Based on the timing of new contracts, the Company will evaluate increases to the production schedule. Based on hiring and adjustments to the supply chain, we estimate that it takes approximately six to nine months to incrementally ramp to an additional 25 MW of annualized production volume.
Factors that may impact our liquidity in 2017 and beyond include:
•
Our expanding development of large scale turn-key projects in the United States requires liquidity and is expected to continue to have liquidity requirements in the future. Our business model includes the development of turn-key projects and we may commence construction upon the execution of a multi-year power purchase agreement with an end-user that has a strong credit profile. We may choose to substantially complete the construction of a project before it is sold to a project investor. Alternatively, we may choose to retain ownership of one or more of these projects after they become operational if we determine it would be of economic and strategic benefit to do so. If, for example, we cannot sell a project at economics that are attractive to us, we may instead elect to own and operate such projects, generally until such time that we can sell a project on economically attractive terms. In markets where there is a compelling value proposition, we may also build one or more power plants on an uncontracted "merchant" basis in advance of securing long-term contracts for the project attributes (including energy, renewable energy credits and capacity). Delays in construction progress or in completing the sale of our projects which we are self-financing may impact our liquidity. At October 31, 2016, we had $40.0 million of committed construction period and term project financing, of which $38.2 million was available, to enable this strategy though we may seek to use our cash balances or other forms of financing as necessary. We have partnered with financial institutions to secure long-term debt and leases for our PPA portfolio. In fiscal year 2016, we financed approximately $41.5 million of projects and expect that activity to continue in 2017.
•
As project sizes evolve, project cycle times may increase. We may need to make significant up-front investments of resources in advance of the receipt of any cash from the sale of our projects. These amounts include development costs, interconnection costs, posting of letters of credit or other forms of security, and incurring engineering, permitting, legal, and other expenses.
•
The amount of accounts receivable at October 31, 2016 and 2015 was $38.7 million ($14.1 million classified as Other assets, net) and $60.8 million, respectively. Included in accounts receivable at October 31, 2016 and 2015 was $22.4 million and $41.0 million, respectively, of unbilled accounts receivable. Unbilled accounts receivable represents revenue that has been recognized in advance of billing the customer under the terms of the underlying contracts. Such costs have been funded with working capital and the unbilled amounts are expected to be billed and collected from customers once we meet the billing criteria under the contracts. At this time, we bill our customers according to the contract terms. Our accounts receivable balances may fluctuate as of any balance sheet date depending on the timing of individual contract milestones and progress on completion of our projects.
•
The amount of total inventory at October 31, 2016 and 2015 was $73.8 million and $65.8 million, respectively, which includes work in process inventory totaling $48.5 million and $36.7 million, respectively. As we continue to execute on our business plan we must produce fuel cell modules and procure balance of plant components in required volumes to support our planned construction schedules and potential customer contractual requirements. As a result, we may manufacture modules or acquire balance of plant in advance of receiving payment for such activities. This may result in fluctuations of inventory and use of cash as of any balance sheet date.
•
Cash and cash equivalents at October 31, 2016 included $5.3 million of cash advanced by POSCO Energy for raw material purchases made on its behalf by FuelCell Energy. Under an inventory procurement agreement that ensures coordinated purchasing from the global supply chain, FuelCell Energy provides procurement services for POSCO Energy and receives compensation for services rendered. While POSCO Energy makes payments to us in advance of supplier requirements, quarterly receipts may not match disbursements.
•
The amount of total project assets including current and long-term at October 31, 2016 and October 31, 2015 was $47.1 million and $12.2 million, respectively. Project assets consist of capitalized costs for fuel cell projects in various stages of development, whereby we have entered into power purchase agreements prior to entering into a definitive sales or long-term financing agreement for the project, or of capitalized costs for fuel cell projects which are the subject of a sale-leaseback transaction with PNC or projects in development for which we expect to secure long-term contracts. There were no short-term project assets as of October 31, 2016. The long-term portion of project assets of $29.3 million represents completed installations for which there is a PPA and which are the subject of our sale-leaseback program and $17.8 million of project assets represent projects in development. At October 31, 2016, we had 8.4 MW of our operating project assets that we estimate will generate approximately $6.0 million a year of revenue for the Company. We expect this portfolio to continue to grow in fiscal year 2017.
•
Under the terms of certain contracts, the Company will provide performance security for future contractual obligations. At October 31, 2016 we have pledged approximately $34.1 million of our cash and cash equivalents as collateral for performance security and for letters of credit for certain banking requirements and contracts. This balance may increase with a growing backlog and installed fleet.
•
For fiscal year 2017, we forecast capital expenditures in the range of $9.0 - $12.0 million compared to $7.7 million in fiscal year 2016. We have commenced the first phase of our project to expand our existing 65,000 square foot manufacturing facility in Torrington, Connecticut by approximately 102,000 square feet for a total size of 167,000 square feet. Initially, this additional space will be used to enhance and streamline logistics functions through consolidation of satellite warehouse locations and will provide the space needed to reconfigure the existing production process to improve manufacturing efficiencies and realize cost savings. On November 9, 2015, the Company closed on a definitive Assistance Agreement with the State of Connecticut and received a disbursement of $10 million to be used for the first phase. Pursuant to the terms of the loan, payment of principal is deferred for the first four years of this 15 year loan. Interest at a fixed rate of 2% is payable beginning December 2015. Up to 50 percent of the principal balance is forgivable if certain job creation and retention targets are met.
In addition to cash flows from operations, we may also pursue raising capital through a combination of: (i) sales of equity to public markets or strategic investors, (ii) debt financing (with improving operating results as the business grows, the Company expects to have increased access to the debt markets to finance working capital and capital expenditures), (iii) project level debt and equity financing and (iv) potential local or state Government loans or grants in return for manufacturing job creation and retention. The timing and size of any financing will depend on multiple factors including market conditions, future order flow and the need to adjust production capacity. If we are unable to raise additional capital, our growth potential may be adversely affected and we may have to modify our plans.
Cash Flows
Cash and cash equivalents and restricted cash and cash equivalents totaled $118.3 million at October 31, 2016 compared to $85.7 million at October 31, 2015. At October 31, 2016, restricted cash and cash equivalents was $34.1 million, of which $9.4 million was classified as current and $24.7 million was classified as non-current, compared to $26.9 million total restricted cash and cash equivalents at October 31, 2015, of which $6.3 million was classified as current and $20.6 million was classified as non-current.
The following table summarizes our consolidated cash flows:
The key components of our cash inflows and outflows were as follows:
Operating Activities - Cash used in operating activities was $46.6 million during fiscal year 2016 compared to $44.3 million used in operating activities during fiscal year 2015. Net cash used in operating activities during fiscal year 2016 is primarily the result of a net loss of $51.2 million and a $26.6 million decrease in deferred revenue. Cash used by operating activities also included a $3.0 million reduction in accounts payable, and an $8.1 million increase in inventories. As we continue to execute on our business plan we must produce fuel cell modules and procure balance of plant components in required volumes to support our planned
construction schedules and potential customer contractual requirements. Cash used by operating activities was partially offset by a $30.2 million decrease in accounts receivable.
Net cash used in operating activities during fiscal year 2015 is primarily a result of increases in current project assets and inventory of $11.4 million and $10.1 million, respectively, due to an increase in power purchase agreements in backlog and projects under development versus direct sales in the comparable prior year period. Decreases in fiscal year 2015 accounts payable and deferred revenue of $7.2 million and $3.9 million, respectively, also contributed to cash used in operating activities. These changes were partially offset by a decrease in accounts receivable of $3.2 million and an increase in accrued liabilities of $6.4 million.
Investing Activities - Cash used in investing activities was $41.5 million during fiscal year 2016 compared to net cash used in investing activities of $6.9 million during fiscal year 2015. Net cash used during fiscal year 2016 consists of a $33.7 million investment in project assets as a result of expanding our business model to retain operating PPAs with contract durations of up to twenty years. At October 31, 2016, we had 8.4 MW of operating assets expected to generate revenues of approximately $6.0 million per year on an annualized basis. Capital expenditures totaled $7.7 million primarily related to the expansion of our Torrington facility.
Net cash used during fiscal year 2015 pertains to capital expenditures including expenditures for upgrades to existing machinery, equipment and investments in automation equipment that improved the efficiency and cost profile of our operations and facilitated our Torrington facility expansion which commenced in early 2016.
Financing Activities - Net cash provided by financing activities was $120.7 million during fiscal year 2016 compared to $28.2 million in the prior year period. Net cash provided by financing activities during the year ended October 31, 2016 includes net proceeds from open market sales of common stock of $36.2 million and proceeds from a registered direct offering of common stock and warrants to a single institutional investor totaling $34.7 million. The Company also had net debt proceeds of $55.5 million consisting of long-term debt from the State of CT for our facility expansion, Hercules Capital Inc. to support working capital and NRG Energy and PNC Energy Capital to support long-term project financing. Proceeds of financing activities were partially offset primarily by the payment of preferred dividends and return of capital payments of $4.2 million and the payment of deferred finance costs of $1.8 million.
Net cash provided by financing activities during the fiscal year ended October 31, 2015 includes proceeds from open market sales of common stock of $27.1 million and net debt proceeds of $5.2 million, partially offset by the payment of preferred dividends and return of capital payments of $4.2 million.
Commitments and Significant Contractual Obligations
A summary of our significant future commitments and contractual obligations at October 31, 2016 and the related payments by fiscal year is summarized as follows:
(1)
Purchase commitments with suppliers for materials, supplies and services incurred in the normal course of business.
(2)
The terms of the Class A Cumulative Redeemable Exchangeable Preferred Share Agreement (the “Series 1 Preferred Share Agreement”) require payments of (i) an annual amount of Cdn. $500,000 for dividends and (ii) an amount of Cdn. $750,000 as return of capital payments payable in cash. These payments will end on December 31, 2020. Dividends accrue at a 1.25 percent quarterly rate on the unpaid principal balance, and additional dividends will accrue on the cumulative unpaid dividends at a rate of 1.25 percent per quarter, compounded quarterly. On December 31, 2020 the amount of all accrued and unpaid
dividends on the Class A Preferred Shares of Cdn. $21.1 million and the balance of the principal redemption price of Cdn. $4.4 million will be due to the holders of the Series 1 preferred shares. The Company has the option of making dividend payments in the form of common stock or cash under terms outlined in the preferred share agreement. For purposes of preparing the above table, the final balance of accrued and unpaid dividends due December 31, 2020 of Cdn. $21.1 million is assumed to be paid in the form of common stock and not included in this table.
(3)
Future minimum lease payments on capital and operating leases.
(4)
The amount represents payments due on sale-leaseback transactions of our wholly-owned subsidiary, under its financing agreement with PNC. Projects financed under this facility are generally payable in fixed quarterly installments over a ten-year period.
(5)
The Company entered into an agreement with one of its customers on June 29, 2016 which includes a fee for the purchase of the plants at the end of the term of the agreement. The option fee is payable in installments over the term of the agreement.
(6)
We pay $3.2 million in annual dividends on our Series B Preferred Stock. The $3.2 million annual dividend payment has not been included in this table as we cannot reasonably determine the period when or if we will be able to convert the Series B Preferred Stock into shares of our common stock. We may, at our option, convert these shares into the number of shares of our common stock that are issuable at the then prevailing conversion rate if the closing price of our common stock exceeds 150 percent of the then prevailing conversion price ($141) for 20 trading days during any consecutive 30 trading day period.
In April 2016, the Company entered into a loan and security agreement (the "Agreement") with Hercules Capital, Inc. (“Hercules”) for an aggregate principal amount of up to $25.0 million, subject to certain terms and conditions. The Company received an initial term loan advance on the date of closing of $15.0 million and an additional $5.0 million in September 2016. As of October 31, 2016 drawdowns and accrued amortization of the end of term charge on the facility aggregated $20.5 million. The Company may take an additional loan advance of $5.0 million beginning on the later of January 1, 2017 or the date certain milestones are met, and June 15, 2017. The loan is a 30 month secured facility and the term loan interest is currently 9.5%. Interest is paid on a monthly basis. As of October 31, 2016, interest only payments are required through November 1, 2017. If certain additional performance milestones are achieved, the interest only period would be extended to May 1, 2018. Upon completion of interest only payments, the loan balance and all accrued and unpaid interest is due and payable in equal monthly installments by October 1, 2018. Per the terms of the Agreement, there is an end of term charge of $1.7 million which is being accreted by the effective interest rate method which would increase to $2.1 million if the Company receives an additional $5.0 million advance as discussed above.
On November 9, 2015, the Company closed on a definitive Assistance Agreement with the State of Connecticut and received a disbursement of $10.0 million to be used for the first phase of the expansion of our Torrington, Connecticut manufacturing facility. In conjunction with this financing, the Company entered into a $10.0 million Promissory Note and related security agreements securing the loan with equipment liens and a mortgage on its Danbury, Connecticut location. Pursuant to the terms of the loan, payment of principal is deferred for the first four years. Interest at a fixed rate of 2 percent is payable beginning December 2015. The financing is payable over 15 years, and is predicated on certain terms and conditions, including the forgiveness of up to 50 percent of the loan principal if certain job retention and job creation targets are reached. In addition, the Company may receive up to $10.0 million of non-refundable transferable tax credits if certain terms and conditions are met.
The second phase of our manufacturing expansion, for which we will be eligible to receive an additional $10.0 million in low-cost financing from the State of Connecticut, will commence as demand supports. This includes adding manufacturing equipment to increase annual capacity from the current 100 megawatts to at least 200 megawatts. Plans for this phase also include the installation of a megawatt scale tri-generation fuel cell plant to power and heat the facility as well as provide hydrogen for the manufacturing process of the fuel cell components, and the creation of an Advanced Technology Center for technology testing and prototype manufacturing. In addition, the final stage of the fuel cell module manufacturing will be relocated to the Torrington facility from its current location at the Danbury, Connecticut headquarters, which will reduce logistics costs. The total cost of both phases of the expansion could be up to $65.0 million over a five year period, including the proposed Advanced Technology Center and tri-generation fuel cell power plant.
On July 30, 2014, the Company's subsidiary, FuelCell Energy Finance, LLC ("FuelCell Finance") entered into a Loan Agreement with NRG. Pursuant to the Loan Agreement, NRG has extended a $40.0 million revolving construction and term financing facility to FuelCell Finance for the purpose of accelerating project development by the Company and its subsidiaries. FuelCell Finance and its subsidiaries may draw on the facility to finance the construction of projects through the commercial operating date of the power plants. FuelCell Finance has the option to continue the financing term for each project after the commercial operating date for a maximum term of five years per project. The interest rate is 8.5 percent per annum for construction-period financing and 8.0 percent thereafter. At October 31, 2016, drawdowns on the facility aggregated $1.8 million.
In March 2013, we closed on a long-term loan agreement with the Connecticut Clean Energy and Finance Investment Authority (CEFIA, now known as the CT Green Bank) totaling $5.9 million in support of the Bridgeport Fuel Cell Project. The loan agreement
carries an interest rate of 5.0 percent and principal repayments will commence on the eighth anniversary of the project's provisional acceptance date which is in December 2021. Outstanding amounts are secured by future cash flows from the Bridgeport contracts. The outstanding balance on the CEFIA Note as of October 31, 2016 was $6.1 million.
In April 2008, we entered into a 10-year loan agreement with the Connecticut Development Authority allowing for a maximum amount borrowed of $4.0 million. At October 31, 2016, we had an outstanding balance of $2.6 million on this loan. The interest rate is 5 percent. Interest only payments commenced in January 2014 and the loan is collateralized by the assets procured under this loan as well as $4.0 million of additional machinery and equipment. Repayment terms require interest and principal payments through May, 2018.
We have pledged approximately $34.1 million of our cash and cash equivalents as performance security and for letters of credit for certain banking requirements and contracts. At October 31, 2016, outstanding letters of credit totaled $7.9 million. These expire on various dates through April 2019. Under the terms of certain contracts, the Company will provide performance security for future contractual obligations. The restricted cash balance as of July 31, 2016 includes $15.0 million which was placed in a Grantor's Trust account to secure certain FCE obligations under the 15-year service agreement for the Bridgeport Fuel Cell Park Project and is reflected as long-term restricted cash. The restrictions on the $15.0 million will be removed upon completion of the final module exchange at the Bridgeport Fuel Cell Park Project under the terms of the services agreement. The restricted cash balance as of October 31, 2016 also includes $8.5 million to support obligations of the power purchase and service agreements related to the PNC sale-leaseback transaction.
At October 31, 2016, we have uncertain tax positions aggregating $15.7 million and have reduced our net operating loss carryforwards by this amount. Because of the level of net operating losses and valuation allowances, unrecognized tax benefits, even if not resolved in our favor, would not result in any cash payment or obligation and therefore have not been included in the contractual obligation table above.
In addition to the commitments listed in the table above, we have the following outstanding obligations:
Power purchase agreements
Under the terms of our PPAs, customers agree to purchase power from our fuel cell power plants at negotiated rates. Electricity rates are generally a function of the customers’ current and future electricity pricing available from the grid. We are responsible for all operating costs necessary to maintain, monitor and repair the power plants. Under certain agreements, we are also responsible for procuring fuel, generally natural gas, to run the power plants. We are typically not required to produce minimum amounts of power under our PPA agreements and we typically have the right to terminate PPA agreements by giving written notice to the customer, subject to certain exit costs. As of October 31, 2016, our operating portfolio is 11.2 MW.
Service and warranty agreements
We warranty our products for a specific period of time against manufacturing or performance defects. Our standard U.S. warranty period is generally fifteen months after shipment or twelve months after acceptance of the product. We have agreed to warranty kits and components for twenty-one months from the date of shipment due to the additional shipping and customer manufacture time required. In addition to the standard product warranty, we have contracted with certain customers to provide services to ensure the power plants meet minimum operating levels for terms ranging from up to twenty years. Pricing for service contracts is based upon estimates of future costs, which could be materially different from actual expenses. Also see Critical Accounting Policies and Estimates for additional details.
Advanced technologies contracts (Research and development contracts)
We have contracted with various government agencies and certain companies from private industry to conduct research and development as either a prime contractor or sub-contractor under multi-year, cost-reimbursement and/or cost-share type contracts or cooperative agreements. Cost-share terms require that participating contractors share the total cost of the project based on an agreed upon ratio. In many cases, we are reimbursed only a portion of the costs incurred or to be incurred on the contract. While government research and development contracts may extend for many years, funding is often provided incrementally on a year-by-year basis if contract terms are met and Congress authorizes the funds. At October 31, 2016, Advanced technologies contracts backlog totaled $60.1 million, of which $39.6 million is funded. Should funding be delayed or if business initiatives change, we may choose to devote resources to other activities, including internally funded research and development.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements and related disclosures requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and the disclosure of contingent assets and liabilities. Actual results could differ from those estimates. Estimates are used in accounting for, among other things, revenue recognition, contract loss accruals, excess, slow-moving and obsolete inventories, product warranty costs, loss accruals on service agreements, share-based compensation expense, allowance for doubtful accounts, depreciation and amortization, impairment of goodwill and in-process research and development intangible assets, impairment of long-lived assets, income taxes and contingencies. Estimates and assumptions are reviewed periodically, and the effects of revisions are reflected in the consolidated financial statements in the period they are determined to be necessary.
Our critical accounting policies are those that are both most important to our financial condition and results of operations and require the most difficult, subjective or complex judgments on the part of management in their application, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Our accounting policies are set forth below.
Goodwill and Intangible Assets
Goodwill represents the excess of the aggregate purchase price over the fair value of the net assets acquired in a purchase business combination and is reviewed for impairment at least annually.
Accounting Standards Codification Topic 350, "Intangibles - Goodwill and Other," (ASC 350) permits the assessment of qualitative factors to determine whether events and circumstances lead to the conclusion that it is necessary to perform the two-step goodwill impairment test required under ASC 350.
The Company completed its annual impairment analysis at July 31 of goodwill and intangible assets with indefinite lives during the third quarter of fiscal year 2016. The analysis was performed at the reporting unit level. The goodwill and intangible assets all relate to the Company's Versa power Systems, Inc. (Versa) reporting unit, since Versa has a segment manager that regularly reviews the results of that operation. Goodwill and other indefinite lived intangible assets are also reviewed for possible impairment whenever changes in conditions indicate that the fair value of a reporting unit is more likely than not below its carrying value.
The Company’s quantitative assessment during the third quarter of fiscal year 2016 included future cash flow estimates associated with the Versa reporting unit including the SOFC technology. Estimates included, among other things, cash requirements to fully commercialize the SOFC technology, the current and future size of the SOFC market, our ability to penetrate that market with our technology, product pricing and costs. In consideration of these estimates, the Company’s quantitative cash flow assessment utilized a 30% discount rate. No impairment charges were recorded during any of the years presented.
Impairment of Long Lived Assets
Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset group may not be recoverable. If events or changes in circumstances indicate that the carrying amount of the asset group may not be recoverable, we compare the carrying amount of an asset group to future undiscounted net cash flows, excluding interest costs, expected to be generated by the asset group and their ultimate disposition. If the sum of the undiscounted cash flows is less than the carrying value, the impairment to be recognized is measured by the amount by which the carrying amount of the asset group exceeds the fair value of the asset group. Assets to be disposed of are reported at the lower of the carrying amount or fair value, less costs to sell. No impairment charges were recorded during any of the years presented.
Revenue Recognition
We earn revenue from (i) the sale and installation of fuel cell power plants (ii) the sale of component part kits, modules and spare parts to customers, (iii) site engineering and construction services, (iv) performance under long-term service agreements, (v) the sale of electricity under PPAs, (vi) license fees and royalty income from manufacturing and technology transfer agreements, and (vii) customer-sponsored advanced technology projects.
The Company periodically enters into arrangements with customers that involve multiple elements of the above items. We assess such contracts to evaluate whether there are multiple deliverables, and whether the consideration under the arrangement is being appropriately allocated to each of the deliverables.
Our revenue is primarily generated from customers located throughout the U.S., Europe and Asia and from agencies of the U.S. Government. Revenue from the sale and installation of fuel cell power plants; the sale of component part kits, modules and spare parts; site engineering and construction services is recorded as product sales in the consolidated statements of operations. Revenue from service agreements, PPAs, license and royalty revenue and engineering services revenue is recorded as service and license
revenues. Revenue from customer-sponsored advanced technology research and development projects is recorded as advanced technologies contract revenues in the consolidated statements of operations.
For customer contracts for complete DFC power plants, with which the Company has adequate cost history and estimating experience, and that management believes it can reasonably estimate total contract costs, revenue is recognized under the percentage of completion method of accounting. The use of percentage of completion accounting requires significant judgment relative to estimating total contract costs, including assumptions relative to the length of time to complete the contract, the nature and complexity of the work to be performed, anticipated increases in wages and prices for subcontractor services and materials, and the availability of subcontractor services and materials. Our estimates are based upon the professional knowledge and experience of our engineers, project managers and other personnel, who review each long-term contract on a quarterly basis to assess the contract's schedule, performance, technical matters and estimated cost at completion. When changes in estimated contract costs are identified, such revisions may result in current period adjustments to operations applicable to performance in prior periods. Revenues are recognized based on the percentage of the contract value that incurred costs to date bear to estimated total contract costs, after giving effect to estimates of costs to complete based on most recent information. For customer contracts for new or significantly customized products, where management does not believe it has the ability to reasonably estimate total contract costs, revenue is recognized using the completed contract method and therefore all revenue and costs for the contract are deferred and not recognized until installation and acceptance of the power plant is complete. We recognize anticipated contract losses as soon as they become known and estimable. Actual results could vary from initial estimates and estimates will be updated as conditions change.
Revenue from fuel cell kits, modules and spare parts sales is recognized upon shipment or title transfer under the terms of the customer contract. Terms for certain contracts provide for a transfer of title and risk of loss to our customers at our factory locations upon completion of our contractual requirement to produce products and prepare the products for shipment. A shipment in place may occur in the event that the customer is not ready to take delivery of the products on the contractually specified delivery dates.
Site engineering and construction services revenue is recognized on a percentage of completion basis as costs are incurred.
Revenue from service agreements is generally recorded ratably over the term of the service agreement, as our performance of routine monitoring and maintenance under these service agreements is generally expected to be incurred on a straight-line basis. For service agreements where we expect to have a module exchange at some point during the term (generally service agreements in excess of five years), the costs of performance are not expected to be incurred on a straight-line basis, and therefore, a portion of the initial contract value related to the module exchange is deferred and is recognized upon such module replacement event.
The Company receives license fees and royalty income from POSCO Energy as a result of manufacturing and technology transfer agreements entered into in 2007, 2009 and 2012. The Cell Technology Transfer Agreement we entered into on October 31, 2012 provides POSCO Energy with the technology to manufacture Direct FuelCell power plants in South Korea and the exclusive market access to sell power plants throughout Asia. In conjunction with this agreement we amended the 2010 manufacturing and distribution agreement with POSCO Energy and the 2009 License Agreement. The 2012 agreement and the previously referenced amendments contain multiple elements, including the license of technology and market access rights, fuel cell module kit product deliverables, as well as professional service deliverables. We identified these three items as deliverables under the multiple-element arrangement guidance and evaluated the estimated selling prices to allocate the relative fair value to these deliverables, as vendor-specific objective evidence and third-party evidence was not available. The Company's determination of estimated selling prices involved the consideration of several factors based on the specific facts and circumstances of each arrangement. Specifically, the Company considered the cost to produce the tangible product and cost of professional service deliverables, the anticipated margin on those deliverables, prices charged when those deliverables are sold on a stand-alone basis in limited sales, and the Company's ongoing pricing strategy and practices used to negotiate and price overall bundled product, service and license arrangements. We are recognizing the consideration allocated to the license of technology and market access rights as revenue over the 15 year license term on a straight-line basis, and will recognize the amounts allocated to the module kit deliverables and professional service deliverables when such items are delivered to POSCO Energy. We also determined that based on the utility to the customer of the fully developed technology that was licensed in the Cell Technology Transfer Agreement, there is stand-alone value for this deliverable.
Under PPAs, revenue from the sale of electricity is recognized as electricity is provided to the customer. These revenues are classified as a component of service and license revenues.
Revenue from funded advanced technology contracts is recognized as direct costs are incurred plus allowable overhead less cost share requirements, if any. Revenue from customer funded advanced technology programs are generally multi-year, cost-reimbursement and/or cost-shared type contracts or cooperative agreements. We are reimbursed for reasonable and allocable costs up to the reimbursement limits set by the contract or cooperative agreement, and on certain contracts we are reimbursed only a
portion of the costs incurred. While advanced technology contracts may extend for many years, funding is often provided incrementally on a year-by-year basis if contract terms are met and funds are authorized.
Sale-Leaseback Accounting
From time to time, the Company, through a wholly-owned indirect subsidiary, enters into sale-leaseback transactions for commissioned projects where we have entered into a PPA with a customer who is both the site host and end user of the power. The Company uses the financing method to account for these transactions.
Under the financing method of accounting for a sale-leaseback, the Company does not recognize as income any of the sale proceeds received from the lessor that contractually constitutes payment to acquire the assets subject to these arrangements. Instead, the sale proceeds received are accounted for as financing obligations and leaseback payments made by the Company are allocated between interest expense and a reduction to the financing obligation. Interest on the financing obligation is calculated using the Company’s incremental borrowing rate at the inception of the arrangement on the outstanding financing obligation. Judgment is required to determine the appropriate borrowing rate for the arrangement and in determining any gain or loss on the transaction that would be recorded at the end of the lease term. While we have received financing for the full value of the related power plant assets, we have not recognized revenue on the sale leaseback transaction. Instead, revenue is recognized through the sale of electricity and energy credits which are generated as energy is produced.
Inventories and Advance Payments to Vendors
Inventories consist principally of raw materials and work-in-process. In certain circumstances, we will make advance payments to vendors for future inventory deliveries. These advance payments are recorded as other current assets on the consolidated balance sheets.
Inventories are reviewed to determine if valuation adjustments are required for obsolescence (excess, obsolete, and slow-moving inventory). This review includes analyzing inventory levels of individual parts considering the current design of our products and production requirements as well as the expected inventory needs for maintenance on installed power plants.
Warranty and Service Expense Recognition
We warranty our products for a specific period of time against manufacturing or performance defects. Our U.S. warranty is limited to a term generally 15 months after shipment or 12 months after acceptance of our products, except for fuel cell kits. We have agreed to warranty fuel cell kits and components for 21 months from the date of shipment due to the additional shipping and customer manufacture time required. We accrue for estimated future warranty costs based on historical experience. We also provide for a specific accrual if there is a known issue requiring repair during the warranty period. Estimates used to record warranty accruals are updated as we gain further operating experience. At October 31, 2016 and October 31, 2015, the warranty accrual, which is classified in accrued liabilities on the consolidated balance sheet, totaled $0.5 million and $1.0 million, respectively.
In addition to the standard product warranty, we have entered into service agreements with certain customers to provide monitoring, maintenance and repair services for fuel cell power plants. Under the terms of these service agreements, the power plant must meet a minimum operating output during the term. If minimum output falls below the contract requirement, we may be subject to performance penalties or may be required to repair and/or replace the customer's fuel cell module. The Company has accrued for performance guarantees of $3.3 million and $2.6 million at October 31, 2016 and October 31, 2015, respectively. The increase relates to additional accruals recorded for lower than expected output at certain fuel cell power plants.
The Company provides for loss accruals on all service agreements when the estimated cost of future module exchanges and maintenance and monitoring activities exceed the remaining contract value. Estimates for future costs on service agreements are determined by a number of factors including the estimated remaining life of the module, used replacement modules available, our limit of liability on service agreements and future operating plans for the power plant. Our estimates are performed on a contract by contract basis and include cost assumptions based on what we anticipate the service requirements will be to fulfill obligations for each contract. At October 31, 2016 and October 31, 2015, our accruals on service agreement contracts totaled $2.7 million and $0.8 million, respectively.
At the end of our service agreements, customers are expected to either renew the service agreement or, based on the Company's rights to title for the module, the module will be returned to the Company as the plant is no longer being monitored or having routine service performed. At October 31, 2016 the Company did not have an asset balance related to the residual value of replacement modules,. At October 31, 2015, the asset related to the residual value of replacement modules in power plants $2.5 million.
ACCOUNTING GUIDANCE UPDATE
Recently Adopted Accounting Guidance
In October 2016, the FASB ASU 2016-18, "Statement of Cash Flows (Topic 230) Restricted Cash". The amendments require that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The Company has early-adopted ASU 2016-18 using a retrospective transition method for each period presented in this ASU. Accordingly, Restricted Cash and Cash Equivalents has been reclassified as a component of Cash, Cash Equivalents, and Restricted Cash in the Consolidated Statement of Cash Flows for all periods presented.
Recent Accounting Guidance Not Yet Effective
In February 2016, the FASB issued Accounting Standards Update ("ASU") 2016-02, “Leases” which, for operating leases, requires a lessee to recognize a right-of-use asset and a lease liability, initially measured at the present value of the lease payments, in its balance sheet. The standard also requires a lessee to recognize a single lease cost, calculated so that the cost of the lease is allocated over the lease term, on a generally straight-line basis. The ASU is effective for public companies for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years (first quarter of fiscal 2020 for the Company). Early adoption is permitted. The Company has both operating and capital leases (Refer to Note 17. Commitments and Contingences) as well as sale leasebacks accounted for under the finance method and may have other arrangements that contain embedded leases as characterized in this ASU. We expect this will result in the recognition of right-of-use assets and lease liabilities not currently recorded on our consolidated financial statements under existing accounting guidance, but we are still evaluating all of the Company’s contractual arrangements and the impact that adoption of ASU 2016-02 will have on the Company’s consolidated financial statements.
In April 2015, the FASB issued Accounting Standards Update ("ASU") 2015-03, Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. This ASU simplifies the presentation of debt issuance costs by requiring that such costs be presented in the balance sheet as a direct deduction from the carrying value of the associated debt instrument, consistent with debt discounts. The amendments in this ASU are effective for fiscal years beginning after December 15, 2015 and for interim periods therein. Adoption of this ASU is not expected to have a material impact on the Company's consolidated financial position.
In May 2014, the FASB issued Accounting Standards Update (ASU) No. 2014-09, “Revenue from Contracts with Customers (Topic 606).” This topic provides for five principles which should be followed to determine the appropriate amount and timing of revenue recognition for the transfer of goods and services to customers. The principles in this ASU should be applied to all contracts with customers regardless of industry. The amendments in this ASU are effective for fiscal years, and interim periods within those years beginning after December 15, 2016, with two transition methods of adoption allowed. Early adoption for reporting periods prior to December 15, 2016 is not permitted. In March 2015, the FASB voted to defer the effective date by one year to fiscal year, and interim periods within those fiscal years beginning after December 15, 2017 (first quarter of fiscal 2019 for the Company), but allow adoption as of the original adoption date. The Company has numerous different revenue sources including from the sale and installation of fuel cell power plants, site engineering and construction services, sale of modules and spare parts, providing service under service agreements, sale of electricity under power purchase agreements, license fees and royalty income from manufacturing and technology transfer agreements and customer-sponsored advanced technology projects. This requires application of various revenue recognition methods under current accounting guidance. Although we anticipate that upon adoption of this new ASU the timing of revenue recognition for certain of our revenue sources might change, we are still evaluating the financial statement impacts of the guidance in this ASU and determining which transition method we will utilize. In May 2016, the FASB issued ASU 2016-12, "Revenue from Contracts with Customers (Topic 606)." This topic provides narrow-scope improvements and practical expedient regarding collectability, presentation of sales tax collected from customers, non-cash consideration, contract modifications at transition, completed contracts at transition and other technical corrections.
Item 7A.
Item 7A.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest Rate Exposure
Cash is invested overnight with high credit quality financial institutions and therefore we are not exposed to market risk on our cash holdings from changing interest rates. Based on our overall interest rate exposure at October 31, 2016, including all interest rate sensitive instruments, a change in interest rates of 1% would not have a material impact on our results of operations.
Foreign Currency Exchange Risk
At October 31, 2016, approximately 6% of our total cash, cash equivalents and investments were in currencies other than U.S. dollars (primarily the Euro, Canadian dollars and South Korean Won) and we have no plans of repatriation. We make purchases from certain vendors in currencies other than U.S. dollars. Although we have not experienced significant foreign exchange rate losses to date, we may in the future, especially to the extent that we do not engage in currency hedging activities. The economic impact of currency exchange rate movements on our operating results is complex because such changes are often linked to variability in real growth, inflation, interest rates, governmental actions and other factors. These changes, if material, may cause us to adjust our financing and operating strategies.
Derivative Fair Value Exposure
Series 1 Preferred Stock
The conversion feature and the variable dividend obligation of our Series 1 Preferred shares are embedded derivatives that require bifurcation from the host contract. The aggregate fair value of these derivatives included within long-term debt and other liabilities at October 31, 2016 and 2015 was $0.7 million. The fair value was based on valuation models using various assumptions including historical stock price volatility, risk-free interest rate and a credit spread based on the yield indexes of technology high yield bonds, foreign exchange volatility as the Series 1 Preferred security is denominated in Canadian dollars, and the closing price of our common stock. Changes in any of these assumptions would change the underlying fair value with a corresponding charge or credit to operations. However, any changes to these assumptions would not have a material impact on our results of operations.
Item 8.
Item 8.
CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
FuelCell Energy, Inc.:
We have audited the accompanying consolidated balance sheets of FuelCell Energy, Inc. and subsidiaries as of October 31, 2016 and 2015, and the related consolidated statements of operations and comprehensive loss, changes in equity (deficit), and cash flows for each of the years in the three-year period ended October 31, 2016. We also have audited FuelCell Energy, Inc.’s internal control over financial reporting as of October 31, 2016, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). FuelCell Energy, Inc.’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying management report on internal controls over financial reporting. Our responsibility is to express an opinion on these consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the consolidated financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of FuelCell Energy, Inc. and subsidiaries as of October 31, 2016 and 2015, and the results of its operations and its cash flows for each of the years in the three-year period ended October 31, 2016, in conformity with U.S. generally accepted accounting principles. Also in our opinion, FuelCell Energy, Inc. maintained, in all material respects, effective internal control over financial reporting as of October 31, 2016, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
/s/ KPMG LLP
Hartford, Connecticut
January 12, 2017
FUELCELL ENERGY, INC.
Consolidated Balance Sheets
October 31, 2016 and 2015
(Amounts in thousands, except share and per share amounts)
See accompanying notes to consolidated financial statements.
FUELCELL ENERGY, INC.
Consolidated Statements of Operations and Comprehensive Loss
For the Years Ended October 31, 2016, 2015, and 2014
(Amounts in thousands, except share and per share amounts)
See accompanying notes to consolidated financial statements.
FUELCELL ENERGY, INC.
Consolidated Statements of Changes in Equity (Deficit)
For the Years Ended October 31, 2016, 2015, and 2014
(Amounts in thousands, except share and per share amounts)
See accompanying notes to consolidated financial statements.
FUELCELL ENERGY, INC.
Consolidated Statements of Cash Flows
For the Years Ended October 31, 2016, 2015 and 2014
(Amounts in thousands, except share and per share amounts)
See accompanying notes to the consolidated financial statements.
Note 1. Nature of Business, Basis of Presentation and Significant Accounting Policies
Nature of Business and Basis of Presentation
FuelCell Energy, Inc. and its subsidiaries (the “Company”, “FuelCell Energy”, “we”, “us”, or “our”) is a leading integrated fuel cell company with a growing global presence. We design, manufacture, install, operate and service ultra-clean, efficient and reliable stationary fuel cell power plants. Our Direct FuelCell power plants continuously produce base load electricity and usable high quality heat around the clock for commercial, industrial, government and utility customers. We have commercialized our stationary carbonate fuel cells and are also pursuing the complementary development of planar solid oxide fuel cells and other fuel cell technologies. Our operations are funded primarily through sales of equity instruments to strategic investors or in public markets, debt financing and local or state government loans or grants. In order to produce positive cash flow from operations, we need to be successful at increasing annual order volume and production and in our cost reduction efforts.
The consolidated financial statements include our accounts and those of our wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated. In October 2016, the Company purchased the noncontrolling interest in FuelCell Energy Services, GmbH.
On December 3, 2015, we effected a 1-for-12 reverse stock split, reducing the number of our common shares outstanding on that date from 314.5 million shares to approximately 26.2 million shares. Concurrently with the reverse stock split the number of authorized shares of our common stock was reduced proportionately from 475 million shares to 39.6 million shares. Additionally, the conversion price of our Series B Preferred Stock, and the exchange price of our Series 1 Preferred Shares, the exercise price of all outstanding options and warrants, and the number of shares reserved for future issuance pursuant to our equity compensation plans were all adjusted proportionately to the reverse stock split. All such amounts presented herein have been adjusted retroactively to reflect these changes.
Certain reclassifications have been made to conform to the current year presentation. Expenditures for long-term project assets for the year ended October 31, 2014 has been reclassified on the Consolidated Statement of Cash Flows from capital expenditures and foreign currency transaction gains for the year ended October 31, 2014 has been reclassified on the Consolidated Statement of Cash Flows from Other non-cash transactions to Foreign currency transaction gains. The Company also has early adopted Accounting Standards Update ("ASU") 2016-18, "Statement of Cash Flows (Topic 230) Restricted Cash" and has applied a retrospective transition method for each period presented. Accordingly, Restricted Cash and Cash Equivalents has been reclassified as a component of Cash, Cash Equivalents, and Restricted Cash in the Consolidated Statement of Cash Flows for all periods presented.
Significant Accounting Policies
Cash and Cash Equivalents and Restricted Cash
All cash equivalents consist of investments in money market funds with original maturities of three months or less at date of acquisition. We place our temporary cash investments with high credit quality financial institutions. At October 31, 2016, $34.1 million of cash and cash equivalents was pledged as collateral for letters of credit and for certain banking requirements and contractual commitments, compared to $26.9 million pledged at October 31, 2015. The restricted cash balance includes $15.0 million as of October 31, 2016 and 2015, which has been placed in a Grantor's Trust account to secure certain FCE obligations under a 15-year service agreement for the Bridgeport Fuel Cell Park project and has been classified as Restricted cash and cash equivalents - long-term. At October 31, 2016 and 2015, we had outstanding letters of credit of $7.9 million and $8.7 million, respectively, which expire on various dates through April 2019. Cash and cash equivalents at October 31, 2016 and 2015 also included $5.3 million and $9.6 million, respectively, of cash advanced by POSCO Energy for raw material purchases made on its behalf by FuelCell Energy. Under an inventory procurement agreement that ensures coordinated purchasing from the global supply chain, FuelCell Energy provides procurement services for POSCO Energy and receives compensation for services rendered. While POSCO Energy makes payments to us in advance of supplier requirements, quarterly receipts may not match disbursements.
Inventories and Advance Payments to Vendors
Inventories consist principally of raw materials and work-in-process. Cost is determined using the first-in, first-out cost method. In certain circumstances, we will make advance payments to vendors for future inventory deliveries. These advance payments are recorded as other current assets on the consolidated balance sheets.
Inventories are reviewed to determine if valuation allowances are required for obsolescence (excess, obsolete, and slow-moving inventory). This review includes analyzing inventory levels of individual parts considering the current design of our products and production requirements as well as the expected inventory requirements for maintenance on installed power plants.
Project Assets
Project assets consist of capitalized costs for fuel cell projects in various stages of development, whereby we have entered into power purchase agreements prior to entering into a definitive sales or long-term financing agreement for the project, or of capitalized costs for fuel cell projects which are the subject of a sale-leaseback transaction with PNC or projects in development for which we expect to secure long-term contracts. These projects are actively being marketed and intended to be sold, although we may choose to retain ownership of one or more of these projects after they become operational if we determine it would be of economic and strategic benefit. Additionally, Project assets include capitalized costs for fuel cell projects which are the subject of a sale-leaseback transaction (see "Sale-Leaseback Facility" below). Project asset costs include costs for developing and constructing a complete turn-key fuel cell project. Development costs can include legal, consulting, permitting, interconnect, and other similar costs. Once we enter into a definitive sales agreement we expense project assets to cost of sales after the respective project asset is sold to a customer and all revenue recognition criteria have been met. We classify project assets as current if the expected commercial operation date is less than twelve months and long-term if it is greater than twelve months from the balance sheet date. The current portion of project assets is currently held for sale, however, should the Company elect to retain a project asset, or elect to enter into a sale-leaseback transaction with respect to it, it will be classified as long-term upon such election. There were no short-term project assets as of October 31, 2016. We review project assets for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable.
Property, Plant and Equipment
Property, plant and equipment are stated at cost, less accumulated depreciation provided on the straight-line method over the estimated useful lives of the respective assets. Leasehold improvements are amortized on the straight-line method over the shorter of the estimated useful lives of the assets or the term of the lease. When property is sold or otherwise disposed of, the cost and related accumulated depreciation are removed from the accounts and any resulting gain or loss is reflected in operations for the period.
Intellectual Property
Intellectual property, including internally generated patents and know-how, is carried at no value.
Goodwill and Intangible Assets
Goodwill represents the excess of the aggregate purchase price over the fair value of the net assets acquired in a purchase business combination and is reviewed for impairment at least annually.
Accounting Standards Codification Topic 350, "Intangibles - Goodwill and Other", (ASC 350) permits the assessment of qualitative factors to determine whether events and circumstances lead to the conclusion that it is necessary to perform the two-step goodwill impairment test required under ASC 350.
The Company completed its annual impairment analysis of goodwill and intangible assets with indefinite lives at July 31, 2016. The goodwill and intangible assets all relate to the Company's Versa reporting unit. Goodwill and other indefinite lived intangible assets are also reviewed for possible impairment whenever changes in conditions indicate that the fair value of a reporting unit is more likely than not below its carrying value. No impairment charges were recorded during any of the years presented.
Impairment of Long Lived Assets
Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset group may not be recoverable. If events or changes in circumstances indicate that the carrying amount of the asset group may not be recoverable, we compare the carrying amount of an asset group to future undiscounted net cash flows, excluding interest costs, expected to be generated by the asset group and their ultimate disposition. If the sum of the undiscounted cash flows is less than the carrying value, the impairment to be recognized is measured by the amount by which the carrying amount of the asset group exceeds the fair value of the asset group. Assets to be disposed of are reported at the lower of the carrying amount or fair value, less costs to sell. No impairment charges were recorded during any of the years presented.
Revenue Recognition
We earn revenue from (i) the sale and installation of fuel cell power plants (ii) the sale of fuel cell modules, component part kits and spare parts to customers, (iii) site engineering and construction services, (iv) performance under long-term service agreements, (v) the sale of electricity under power purchase agreements ("PPA"), (vi) license fees and royalty income from manufacturing and technology transfer agreements, and (vii) customer-sponsored advanced technology projects.
The Company periodically enters into arrangements with customers that involve multiple elements of the above items. We assess such contracts to evaluate whether there are multiple deliverables, and whether the consideration under the arrangement is being appropriately allocated to each of the deliverables.
Our revenue is primarily generated from customers located throughout the U.S., Asia and Europe and from agencies of the U.S. Government. Revenue from power plant construction, module and module kit sales, construction services and component part revenue is recorded as product sales in the consolidated statements of operations. Construction services includes engineering, procurement and construction (EPC) services of the overall fuel cell project. The installation of a power plant at a customer site includes significant site preparation which is included in the EPC component and is required to be completed before integration of the fuel cell power plant. Revenue from service agreements, PPAs and license and royalty revenue is recorded as service and license revenues. Revenue from customer-sponsored advanced technology research and development projects is recorded as advanced technologies contract revenues in the consolidated statements of operations.
For customer contracts for complete DFC power plants which the Company has adequate cost history and estimating experience, and that management believes it can reasonably estimate total contract costs, revenue is recognized under the percentage of completion method of accounting. The use of percentage of completion accounting requires significant judgment relative to estimating total contract costs, including assumptions relative to the length of time to complete the contract, the nature and complexity of the work to be performed, anticipated increases in wages and prices for subcontractor services and materials, and the availability of subcontractor services and materials. Our estimates are based upon the professional knowledge and experience of our engineers, project managers and other personnel, who review each long-term contract on a quarterly basis to assess the contract's schedule, performance, technical matters and estimated cost at completion. When changes in estimated contract costs are identified, such revisions may result in current period adjustments to revenue. Revenues are recognized based on the proportion of costs incurred to date relative to total estimated costs at completion as compared to the contract value. For customer contracts for new or significantly customized products, where management does not believe it has the ability to reasonably estimate total contract costs, revenue is recognized using the completed contract method and therefore all revenue and costs for the contract are deferred and not recognized until installation and acceptance of the power plant is complete. For all types of contracts, we recognize anticipated contract losses as soon as they become known and estimable. Actual results could vary from initial estimates and the estimates will be updated as conditions change.
Revenue from the sale of fuel cell modules, component part kits and spare parts is recognized upon shipment or title transfer under the terms of the customer contract. Terms for certain contracts provide for a transfer of title and risk of loss to our customers at our factory locations upon completion of our contractual requirement to produce products and prepare the products for shipment. A shipment in place may occur in the event that the customer is not ready to take delivery of the products on the contractually specified delivery dates.
Site engineering and construction services revenue is recognized on a percentage of completion basis as costs are incurred.
Revenue from service agreements is generally recorded ratably over the term of the service agreement, as our performance of routine monitoring and maintenance under these service agreements are generally expected to be incurred on a straight-line basis. For service agreements where we expect to have a module exchange at some point during the term (generally service agreements in excess of five years), the costs of performance are not expected to be incurred on a straight-line basis, and therefore, a portion of the initial contract value related to the module exchange is deferred and is recognized upon such module replacement event.
Revenue from funded advanced technology contracts is recognized as direct costs are incurred plus allowable overhead less cost share requirements, if any. Revenue from customer funded advanced technology programs are generally multi-year, cost-reimbursement and/or cost-shared type contracts or cooperative agreements. We are reimbursed for reasonable and allocable costs up to the reimbursement limits set by the contract or cooperative agreement, and on certain contracts we are reimbursed only a portion of the costs incurred. While advanced technology contracts may extend for many years, funding is often provided incrementally on a year-by-year basis if contract terms are met and funds are authorized.
Sale-Leaseback Accounting
From time to time, the Company, through an indirect wholly-owned subsidiary, enters into sale-leaseback transactions for commissioned projects where we have entered into a PPA with a customer who is both the site host and end user of the power (the "Customer"). Due to the Company's continuing involvement with the project and because the leased property being considered integral equipment, sale accounting is precluded by ASC 840-40. Accordingly, the Company uses the financing method to account for these transactions.
Under the financing method of accounting for a sale-leaseback, the Company does not recognize as income any of the sale proceeds received from the lessor that contractually constitutes payment to acquire the assets subject to these arrangements. Instead, the
sale proceeds received are accounted for as financing obligations and leaseback payments made by the Company are allocated between interest expense and a reduction to the financing obligation. Interest on the financing obligation is calculated using the Company’s incremental borrowing rate at the inception of the arrangement on the outstanding financing obligation. Judgment is required to determine the appropriate borrowing rate for the arrangement and in determining any gain or loss on the transaction that would be recorded at the end of the lease term. While we receive financing for the full value of the related power plant asset, we have not recognized revenue on the sale leaseback transaction. Instead, revenue is recognized through the sale of electricity and energy credits which are generated as energy is produced.
Warranty and Service Expense Recognition
We warranty our products for a specific period of time against manufacturing or performance defects. Our U.S. warranty is limited to a term generally 15 months after shipment or 12 months after acceptance of our products, except for fuel cell kits. We have agreed to warranty fuel cell kits and components for 21 months from the date of shipment due to the additional shipping and customer manufacture time required. We accrue for estimated future warranty costs based on historical experience. We also provide for a specific accrual if there is a known issue requiring repair during the warranty period. Estimates used to record warranty accruals are updated as we gain further operating experience. At October 31, 2016 and 2015, the warranty accrual, which is classified in accrued liabilities on the consolidated balance sheet, totaled $0.5 million and $1.0 million, respectively.
In addition to the standard product warranty, we have entered into service agreements with certain customers to provide monitoring, maintenance and repair services for fuel cell power plants. Under the terms of these service agreements, the power plant must meet a minimum operating output during the term. If minimum output falls below the contract requirement, we may be subject to performance penalties or may be required to repair and/or replace the customer's fuel cell module. The Company has accrued for performance guarantees of $3.3 million and $2.6 million at October 31, 2016 and 2015, respectively.
The Company provides for loss accruals for all service agreements when the estimated cost of future module exchanges and maintenance and monitoring activities exceeds the remaining contract value. Estimates for future costs on service agreements are determined by a number of factors including the estimated remaining life of the module, used replacement modules available, our limit of liability on service agreements and future operating plans for the power plant. Our estimates are performed on a contract by contract basis and include cost assumptions based on what we anticipate the service requirements will be to fulfill obligations for each contract. At October 31, 2016, our loss accruals on service agreements totaled $2.7 million compared to $0.8 million at October 31, 2015.
At the end of our service agreements, customers are expected to either renew the service agreement or, based on the Company's rights to title of the module, the module will be returned to the Company as the plant is no longer being monitored or having routine service performed. At October 31, 2016, the Company did not have an asset related to the residual value of replacement modules in power plants under service agreements compared to $2.5 million at October 31, 2015.
License Agreements and Royalty Income
We generally recognize license fees and other revenue over the term of the associated agreement. License fees and royalty income have been included within revenues on the consolidated statement of operations.
The Company receives license fees and royalty income from POSCO Energy as a result of certain manufacturing and technology transfer agreements. In October 2016, these agreements were extended until October 31, 2027, after which they may be extended in five-year increments by mutual agreement of the parties.
The Cell Technology Transfer Agreement ("CTTA") provides POSCO Energy with the technology to manufacture Direct FuelCell power plants in South Korea and the exclusive market access to sell power plants throughout Asia. The CTTA contains multiple elements, including the license of technology and market access rights, fuel cell module kit product deliverables, as well as professional service deliverables. We identified these three items as deliverables under the multiple-element arrangement guidance and evaluated the estimated selling prices to allocate the relative fair value to these deliverables, as vendor-specific objective evidence and third-party evidence was not available. The Company's determination of estimated selling prices involves the consideration of several factors based on the specific facts and circumstances of each arrangement. Specifically, the Company considers the cost to produce the tangible product and cost of professional service deliverables, the anticipated margin on those deliverables, prices charged when those deliverables are sold on a stand-alone basis in limited sales, and the Company's ongoing pricing strategy and practices used to negotiate and price overall bundled product, service and license arrangements. We are recognizing the consideration allocated to the license of technology and market access rights as revenue over the fifteen-year license term on a straight-line basis, and have recognized the amounts allocated to the module kit deliverables and professional service deliverables when such items were delivered to POSCO Energy. We have also determined that based on the utility to the
customer of the fully developed technology that was licensed in the Cell Technology Transfer Agreement, there is stand-alone value for this deliverable. In connection with the CTTA, fees totaling $18.0 million were paid between fiscal year 2012 and 2015.
The Company also receives royalties from POSCO Energy under the 2007 Technology Transfer, Distribution and Licensing Agreement ("TTA") and the 2009 Stack Technology Transfer and License Agreement ("STTA") at the rate of 3.0% of POSCO Energy net sales. Additionally, under the STTA certain license fee income aggregating $7.0 million is being recognized ratably over fifteen years beginning November 1, 2012. Under the terms of the TTA, POSCO Energy manufactures balance of plant (“BOP”) in South Korea using its design, procurement and manufacturing expertise. The STTA allows POSCO Energy to produce fuel cell modules which will be combined with BOP manufactured in South Korea to complete electricity-producing fuel cell power plants for sale in South Korea.
The Company has a Master Service Agreement with POSCO Energy, whereby POSCO Energy has more responsibility for servicing installations in Asia that utilize power plants manufactured by POSCO Energy. The Company performs engineering and support services for each unit in the installed fleet and receives quarterly fees as well as a 3.0% royalty on each fuel cell module replacement under service agreements that were built by POSCO Energy and installed at any plant in Asia.
In April 2014, the Company entered into an Integrated Global Supply Chain Plan Agreement ("IGSCP") with POSCO Energy. FuelCell Energy provides procurement services for POSCO Energy and receives compensation as recognized revenue for services rendered.
The Company recorded revenue of $6.2 million, $3.9 million and $4.3 million for the years ended October 31, 2016, 2015 and 2014, respectively, relating to the above agreements. Future license and royalty income will consist of amortization of the license payments discussed above as well as a 3.0% royalty on POSCO Energy net product sales related to FCE's technology and each scheduled fuel cell module replacement under terms of our Master Service Agreement.
Deferred Revenue and Customer Deposits
We receive payments from customers upon the acceptance of a purchase order and when contractual milestones are reached. These payments may be deferred based on the nature of the payment and status of the specific project. Deferred revenue is recognized as revenue in accordance with our revenue recognition policies summarized above.
Research and Development Costs
We perform both customer-sponsored research and development projects based on contractual agreement with customers and company-sponsored research and development projects. Costs incurred for customer-sponsored projects include manufacturing and engineering labor, applicable overhead expenses, materials to build and test prototype units and other costs associated with customer-sponsored research and development contracts. These costs are recorded as Advanced Technologies contract revenues in the consolidated statements of operations.
Costs incurred for company-sponsored research and development projects consist primarily of labor, overhead, materials to build and test prototype units and consulting fees. These costs are recorded as research and development expenses in the consolidated statements of operations.
Concentrations
We contract with a concentrated number of customers for the sale of our products, for service agreement contracts and for advanced technologies contracts. For the years ended October 31, 2016, 2015 and 2014, our top customers accounted for 78%, 89% and 85%, respectively, of our total annual consolidated revenue.
The percent of consolidated revenues from each customer for the years ended October 31, 2016, 2015 and 2014, respectively, are presented below.
POSCO Energy is a related party and owns approximately 7% of the outstanding common shares of the Company. Additionally, NRG Energy is a related party, which owns approximately 4% of the outstanding common shares of the Company. Revenues from NRG aggregated less than 3% of consolidated revenues during each of the years presented.
Derivatives
We do not use derivatives for speculative purposes and through fiscal year end 2016, have not used derivatives for hedging or trading purposes. Our derivative instruments consist of embedded derivatives in our Series 1 Preferred Shares. We account for these derivatives using the fair-value method with changes in fair value recorded to operations. Refer to Note 12 for additional information.
Use of Estimates
The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and the disclosure of contingent assets and liabilities. Actual results could differ from those estimates. Estimates are used in accounting for, among other things, revenue recognition, excess, slow-moving and obsolete inventories, product warranty costs, service agreement loss accruals, allowance for uncollectable receivables, depreciation and amortization, impairment of goodwill, intangible and long-lived assets, income taxes, and contingencies. Estimates and assumptions are reviewed periodically, and the effects of revisions are reflected in the consolidated financial statements in the period they are determined to be necessary.
Foreign Currency Translation
The translation of FuelCell Korea Ltd’s, FCES GmbH's and Versa Power Systems Ltd. financial statements results in translation gains or losses, which are recorded in accumulated other comprehensive loss within stockholders’ equity (deficit).
Our Canadian subsidiary, FCE Ltd., is financially and operationally integrated and the functional currency is U.S. dollars. We are subject to foreign currency transaction gains and losses as certain transactions are denominated in foreign currencies. We recognized gains of $0.3 million, $1.7 million and $0.6 million for the years ended October 31, 2016, 2015 and 2014, respectively. These amounts have been classified as other income (expense), net in the consolidated statements of operations.
Recently Adopted Accounting Guidance
In October 2016, the FASB ASU 2016-18, "Statement of Cash Flows (Topic 230) Restricted Cash". The amendments require that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The Company has early-adopted ASU 2016-18 using a retrospective transition method for each period presented in this ASU. Accordingly, Restricted Cash and Cash Equivalents has been reclassified as a component of Cash, Cash Equivalents, and Restricted Cash in the Consolidated Statement of Cash Flows for all periods presented.
Recent Accounting Guidance Not Yet Effective
In February 2016, the FASB issued Accounting Standards Update ("ASU") 2016-02, “Leases” which, for operating leases, requires a lessee to recognize a right-of-use asset and a lease liability, initially measured at the present value of the lease payments, in its balance sheet. The standard also requires a lessee to recognize a single lease cost, calculated so that the cost of the lease is allocated over the lease term, on a generally straight-line basis. The ASU is effective for public companies for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years (first quarter of fiscal 2020 for the Company). Early adoption is permitted. The Company has both operating and capital leases (Refer to Note 17. Commitments and Contingences) as well as sale leasebacks accounted for under the finance method and may have other arrangements that contain embedded leases as characterized in this ASU. We expect this will result in the recognition of right-of-use assets and lease liabilities not currently recorded on our consolidated financial statements under existing accounting guidance, but we are still evaluating all of the Company’s contractual arrangements and the impact that adoption of ASU 2016-02 will have on the Company’s consolidated financial statements.
In April 2015, the FASB issued Accounting Standards Update ("ASU") 2015-03, Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. This ASU simplifies the presentation of debt issuance costs by requiring that such costs be presented in the balance sheet as a direct deduction from the carrying value of the associated debt instrument, consistent with debt discounts. The amendments in this ASU are effective for fiscal years beginning after December 15, 2015 and
for interim periods therein. Adoption of this ASU is not expected to have a material impact on the Company's consolidated financial position.
In May 2014, the FASB issued Accounting Standards Update (ASU) No. 2014-09, “Revenue from Contracts with Customers (Topic 606).” This topic provides for five principles which should be followed to determine the appropriate amount and timing of revenue recognition for the transfer of goods and services to customers. The principles in this ASU should be applied to all contracts with customers regardless of industry. The amendments in this ASU are effective for fiscal years, and interim periods within those years beginning after December 15, 2016, with two transition methods of adoption allowed. Early adoption for reporting periods prior to December 15, 2016 is not permitted. In March 2015, the FASB voted to defer the effective date by one year to fiscal year, and interim periods within those fiscal years beginning after December 15, 2017 (first quarter of fiscal 2019 for the Company), but allow adoption as of the original adoption date. The Company has numerous different revenue sources including from the sale and installation of fuel cell power plants, site engineering and construction services, sale of modules and spare parts, providing service under service agreements, sale of electricity under power purchase agreements, license fees and royalty income from manufacturing and technology transfer agreements and customer-sponsored advanced technology projects. This requires application of various revenue recognition methods under current accounting guidance. Although we anticipate that upon adoption of this new ASU the timing of revenue recognition for certain of our revenue sources might change, we are still evaluating the financial statement impacts of the guidance in this ASU and determining which transition method we will utilize. In May 2016, the FASB issued ASU 2016-12, "Revenue from Contracts with Customers (Topic 606)." This topic provides narrow-scope improvements and practical expedient regarding collectability, presentation of sales tax collected from customers, non-cash consideration, contract modifications at transition, completed contracts at transition and other technical corrections.
Note 2. Accounts Receivable
Accounts receivable at October 31, 2016 and 2015 consisted of the following (in thousands):
(1) Total U.S. Government accounts receivable outstanding at October 31, 2016 and 2015 is $2.2 million and $2.6 million, respectively.
We bill customers for power plant and module kit sales based on certain contractual milestones being reached. We bill service agreements based on the contract price and billing terms of the contracts. Generally, our advanced technology contracts are billed based on actual recoverable costs incurred, typically in the month subsequent to incurring costs. Some advanced technology contracts are billed based on contractual milestones or costs incurred. Unbilled recoverable costs relate to revenue recognized on customer contracts that has not been billed. Accounts receivable are presented net of an allowance for doubtful accounts of $0.2 million and $0.5 million at October 31, 2016 and 2015, respectively. Uncollectible accounts receivable are charged against the allowance for doubtful accounts when all collection efforts have failed and it is deemed unlikely that the amount will be recovered.
Accounts receivable from commercial customers (including unbilled recoverable costs) include amounts due from POSCO Energy of $5.0 million and $34.4 million, and amounts due from NRG of $0.1 million and $0.02 million at October 31, 2016 and 2015, respectively.
Note 3. Inventories
Inventories at October 31, 2016 and 2015 consisted of the following (in thousands):
(1) Work-in-process includes the standard components of inventory used to build the typical modules or module components that are intended to be used in future power plant orders or to service our service agreements. Included in Work-in-process at October 31, 2016 and 2015 is $40.6 million and $13.3 million, respectively, of completed standard components.
Raw materials consist mainly of various nickel powders and steels, various other components used in producing cell stacks and purchased components for balance of plant. Work-in-process inventory is comprised of material, labor, and overhead costs incurred to build fuel cell stacks and modules, which are subcomponents of a power plant.
Raw materials and work in process are net of a valuation allowance of approximately $0.8 million and $0.2 million at October 31, 2016 and 2015, respectively.
Note 4. Project Assets
Project assets at October 31, 2016 and 2015 consisted of the following (in thousands):
Project assets at October 31, 2016 include $29.3 million which represents three completed, commissioned installations where we have a PPA with the end-user of power and site host. These assets are the subject of sales-leaseback arrangements with PNC, which are recorded under the financing method of accounting for a sale-leaseback. Under the finance method, the Company does not recognize the proceeds received from the lessor as a sale of such assets. This balance also includes assets aggregating $17.8 million which are being constructed by the Company under PPAs which have been executed or are expected to be executed in 2017.
The long-term portion of project assets has been partially offset by project related grant awards. Project construction costs incurred after classification as long-term project assets are reported as investing activities in the Consolidated Statement of Cash Flows. The proceeds received for the sale and subsequent leaseback of project assets are classified as cash flows from financing activities within the Consolidated Statement of Cash Flows and are classified as a financing obligation within Long-term debt and other liabilities on the Consolidated Balance Sheets (refer to Note 10 for more information).
Note 5. Property, Plant and Equipment
Property, plant and equipment at October 31, 2016 and 2015 consisted of the following (in thousands):
In December 2015, the Company commenced the first phase of its project to expand the existing 65,000 square foot manufacturing facility in Torrington, Connecticut by approximately 102,000 square feet for a total size of 167,000 square feet.
Depreciation expense was $4.9 million, $4.1 million and $4.4 million for the years ended October 31, 2016, 2015 and 2014, respectively.
Note 6. Goodwill and Intangible Assets
At October 31, 2016, the Company had goodwill of $4.1 million and intangible assets of $9.6 million associated with the 2012 Versa acquisition. The intangible asset represents indefinite lived in-process research and development.
The Company completed its annual impairment analysis of goodwill and in-process research and development asset at July 31, 2016. To determine the fair value of the reporting unit that holds goodwill and to determine the fair value of the in-process research and development asset, the Company used a discounted cash flow model and a multi-period excess earnings model, respectively. The estimated fair value of the reporting unit and in-process research and development intangible asset substantially exceeds the respective carrying values and therefore no impairments have been recognized at October 31, 2016.
Note 7. Other Current Assets
Other current assets at October 31, 2016 and 2015 consisted of the following (in thousands):
(1)
Advance payments to vendors relate to inventory purchases ahead of receipt.
(2)
Primarily represents the current portion of direct deferred finance costs relating to securing a $40.0 million loan facility with NRG which is being amortized over the five-year life of the facility, and direct deferred finance costs relating to the Hercules loan and security agreement entered into in April 2016 which is being amortized over the 2.5 years life of the loan.
(3)
Primarily relates to other prepaid vendor expenses including insurance, rent and lease payments.
Note 8. Other Assets, net
Other assets, net at October 31, 2016 and 2015 consisted of the following (in thousands):
(1)
Represents receivables related to project and stack replacement reserve accounts pertaining to a sale-leaseback transaction and upon receipt, the funds will be recorded as long-term restricted cash.
(2)
Represents unbilled recoverable costs that relate to revenue recognized on customer contracts that will be billed in future periods in excess of twelve months from October 31, 2016.
(3)
Represents the long-term portion of direct deferred finance costs, including those relating to: a) the Company's loan facility with NRG which is being amortized over the five-year life of the facility; b) sale-leaseback transactions entered into with PNC Energy Capital, LLC which are being amortized over the ten-year term and c) the Hercules loan and security agreement which is being amortized over the 30 month life of the loan.
(4)
Relates to estimated residual value for module exchanges performed under the Company's service agreements where the useful life extends beyond the contractual term of the service agreement and the Company obtains title for the module from the customer upon expiration or non-renewal of the service agreement. If the Company does not obtain rights to title from the customer, the full cost of the module is expensed at the time of the module exchange. The decrease from October 31, 2015 represents the residual value being recognized as cost of service agreements due to contract term extensions.
(5)
The Company entered into an agreement with one of its customers on June 29, 2016 which includes a fee for the purchase of the plants at the end of the term of the agreement. The fee is payable in installments over the term of the agreement and the total paid at October 31, 2016 is $0.9 million. The increase at October 31, 2016 also includes deposits for projects in development.
Note 9. Accrued Liabilities
Accrued liabilities at October 31, 2016 and 2015 consisted of the following (in thousands):
(1)
Activity in the accrued product warranty costs during the fiscal year ended October 31, 2016 and 2015 included additions for estimates of potential future warranty obligations of $0.3 million and $0.6 million, respectively, on contracts in the warranty period and reductions related to actual warranty spend of $0.7 million and $0.8 million, respectively, as contracts progress through the warranty period or are beyond the warranty period.
(2)
The Company acts as a procurement agent for POSCO under the Integrated Global Supply Chain Plan ("IGSCP") whereby the Company procures materials on POSCO's behalf for its production facility. The liability represents amounts received for the purchase of materials on behalf of POSCO. Amounts due to vendors is recorded as Accounts Payable.
(3)
Activity in service agreement costs represents an increase in loss accruals on service contracts of $1.9 million from $0.8 million as of October 31, 2015 to $2.7 million as of October 31, 2016. The increase primarily relates to renewals of legacy service contracts. The accruals for performance guarantees also increased from $2.6 million as of October 31, 2015 to $3.3 million as of October 31, 2016 based on the minimum output falling below the contract requirements for certain contracts offset by guarantee payments to customers.
Note 10. Debt
Debt at October 31, 2016 and 2015 consisted of the following (in thousands):
Aggregate annual principal payments under our loan agreements and capital lease obligations for the years subsequent to October 31, 2016 are as follows (in thousands):
In April 2016, the Company entered into a loan and security agreement (the "Agreement") with Hercules Capital, Inc. (“Hercules”) for an aggregate principal amount of up to $25.0 million, subject to certain terms and conditions. The Company received an initial term loan advance on the date of closing of $15.0 million. The Company took an additional loan advance of $5.0 million in September 2016 due to certain milestones being met (“Tranche II”). We may also have available a loan advance of $5.0 million beginning on the later of January 1, 2017 or the date certain milestones are met and June 15, 2017 (“Tranche III”). The loan is a 30 month secured facility and the term loan interest is currently 9.5%. Interest is paid on a monthly basis. As of October 31, 2016, interest only payments are required through November 1, 2017. If certain additional performance milestones are achieved, the interest only period would be extended to May 1, 2018. Upon completion of interest only payments, the loan balance and all accrued and unpaid interest is due and payable in equal monthly installments by October 1, 2018. Per the terms of the Agreement, there is an end of term charge of $1.7 million,which is being accreted over the thirty-month term using the effective interest rate method, which would increase to $2.1 million if the Company receives an additional $5.0 million advanced as discussed above.
As collateral for obligations under the Agreement, the Company granted Hercules a security interest in its existing and hereafter-acquired assets except for intellectual property and certain other excluded assets. Collateral does not include assets held by the Company's finance subsidiary or any project subsidiary thereof. The Company may continue to collateralize and finance its project subsidiaries through other lenders and partners. The loan contains a financial covenant whereby the Company is required to maintain an unrestricted cash balance of at least (a) 75% of the outstanding Loan balance plus (b) the amount of accounts payable (as defined under GAAP) not paid within 90 days of the date payment was issued.
In November 2015, the Company closed on a definitive Assistance Agreement with the State of Connecticut and received a disbursement of $10.0 million to be used for the first phase of the expansion project to expand the existing 65,000 square foot manufacturing facility in Torrington, Connecticut by approximately 102,000 square feet for a total size of 167,000 square feet. In conjunction with this financing, the Company entered into a $10.0 million Promissory Note and related security agreement, securing the loan with equipment liens and a mortgage on its Danbury, Connecticut location. Pursuant to the terms of the Note, payment of principal is deferred for the first four years. Interest at a fixed rate of 2.0% became payable beginning December 2015. The principal is payable over 15 years, and is predicated on certain terms and conditions, including the forgiveness of up to half of the loan principal if certain job retention and job creation targets are reached.
In 2015, the Company entered into an agreement with PNC, whereby the Company’s project finance subsidiaries may enter into sale-leaseback agreements for commissioned projects where we have entered into a PPA with the end-user of power and site host. Under the financing method of accounting for a sale-leaseback, the Company does not recognize as income any of the sale proceeds received from the lessor that contractually constitutes payment to acquire the assets subject to these arrangements. Instead, the sale proceeds received are accounted for as financing obligations. During 2016, three sales-leaseback transactions were completed under the PNC agreement, generating financing aggregating $41.6 million as of October 31, 2016.
In July 2014, the Company, through its wholly-owned subsidiary, entered into a Loan Agreement with NRG (the “Loan Agreement”). Pursuant to the Loan Agreement, NRG extended a $40.0 million revolving construction and term financing facility for the purpose of accelerating project development by the Company and its subsidiaries. We may draw on the facility to finance the construction of projects through the commercial operating date of the power plants. The interest rate is 8.5% per annum for construction-period financing and 8.0% thereafter. Fees that were paid to NRG for making the loan facility available and related legal fees incurred were capitalized and are being amortized straight-line over the life of the related loan agreement, which is five years. Borrowings under the Loan Agreement are secured by the related project assets. The loans may be repaid early should the projects be sold or refinanced at the option of the Company.
The Company has a long-term loan agreement with the Connecticut Clean Energy and Finance Investment Authority (CEFIA, now known as the CT Green Bank) totaling $5.9 million in support of the 2013 Bridgeport Fuel Cell Park project. The loan agreement carries an interest rate of 5.0%. Interest only payments commenced in January 2014 and principal payments will commence on the eighth anniversary of the project's provisional acceptance date, which is December 20, 2021, payable in forty-eight equal monthly installments. Outstanding amounts are secured by cash flows from the Bridgeport Fuel Cell Park service agreement.
We have a loan agreement with the Connecticut Development Authority to finance equipment purchases associated with manufacturing capacity expansion allowing for a maximum amount borrowed of $4.0 million. The interest rate is 5.0% and the loan is collateralized by the assets procured under this loan as well as $4.0 million of additional machinery and equipment. Repayment terms require interest and principal payments through May 2018.
During 2015, the Company had a revolving credit facility with JPMorgan Chase Bank, N.A. (the "Bank") for financing export receivables and was supported by the U.S. Import Export Bank. The credit facility expired on November 28, 2015 and the outstanding balance was paid back on November 24, 2015.
We lease computer equipment under master lease agreements. Lease payment terms are generally 36 months from the date of acceptance for leased equipment.
Note 11. Shareholders’ Equity
Authorized Common Stock
In April 2016, the number of authorized shares of the Company's common stock was increased from 39,583,333 to 75,000,000, by vote of a majority of the Company's security holders.
July 2016 Securities Offering
On July 12, 2016 Company closed on a registered public offering of securities to a single institutional investor pursuant to a placement agent agreement with J.P. Morgan Securities LLC. The Company received net proceeds from the transaction of $34.7 million, after deducting underwriter discounts and offering expenses of $2.6 million. The transaction consisted of 1,474,000 shares of common stock, 7,680,000 Series A Warrants and 4,926,000 pre-funded Series B Warrants (the "Series B Warrants"). The Series A warrants have an exercise price of $5.83 per share. They are initially exercisable beginning on the date that is six months and one day after the issue date and will expire on the fifth anniversary of the initial exercisability date. The Series B Warrants are fully pre-funded warrants and are immediately exercisable. They have an exercise price of $0.0001 per share and will expire on the fifth anniversary of the issue date. The Series B Warrants were offered to the investor, whose purchase of shares of common stock in this offering would otherwise result in the investor, together with its affiliates and certain related parties, beneficially owning more than 4.99% of FuelCell Energy’s outstanding common stock following the consummation of this offering. In lieu of purchasing shares of common stock that would result in its ownership of the Company in excess of 4.99%, the investor purchased the Series B Warrants. Such Series B Warrants grant the investor the right to acquire additional shares of FuelCell Energy common stock at a point in time of its choosing within five years of the issue date of the Series B Warrants. The following table outlines the warrant activity during the year ended October 31, 2016:
The warrants and pre-funded warrants continue to qualify for permanent equity accounting treatment. Subsequent to the year ended October 31, 2016, 1.8 million additional Series B Warrants were exercised.
Other Common Stock Sales and Outstanding Warrants
The Company may sell common stock on the open market from time to time. The proceeds of these sales may be used for general corporate purposes or to pay obligations related to the Company's outstanding Series 1 and Series B preferred shares. During the years ended October 31, 2016 and 2015, respectively, the Company sold 6.0 million shares and 1.9 million shares of the Company's common stock at prevailing market prices through periodic trades on the open market and raised approximately $36.1 million and $26.9 million, net of fees.
On July 30, 2014, the Company issued a warrant to NRG in conjunction with the entry into a Securities Purchase Agreement for the sale of common stock. Pursuant to the warrant agreement, NRG has the right to purchase up to 0.2 million shares of the Company's common stock at an exercise price of $40.20 per share. The warrants continue to qualify for permanent equity accounting treatment and expire on July 30, 2017.
Note 12. Redeemable Preferred Stock
Redeemable Series B Preferred Stock
We have 250,000 shares of our 5% Series B Cumulative Convertible Perpetual Preferred Stock (Liquidation Preference $1,000) (“Series B Preferred Stock”) authorized for issuance. At October 31, 2016 and 2015, there were 64,020 shares of Series B Preferred Stock issued and outstanding, with a carrying value of $59.9 million. The following is a summary of certain provisions of our Series B Preferred Stock.
•
Ranking - Shares of Series B Preferred Stock rank with respect to dividend rights and rights upon our liquidation, winding up or dissolution:
•
senior to shares of our common stock;
•
junior to our debt obligations; and
•
effectively junior to our subsidiaries’ (i) existing and future liabilities and (ii) capital stock held by others.
•
Dividends - The Series B Preferred Stock pays cumulative annual dividends of $50 per share which are payable quarterly in arrears on February 15, May 15, August 15 and November 15, and if declared by the board of directors. Dividends accumulate and are cumulative from the date of original issuance. Accumulated dividends on the Series B Preferred Stock do not bear interest. The terms of our Series B preferred shares prohibit the payment of dividends on our common stock unless all dividends on the Series B preferred stock have been paid in full.
The dividend rate is subject to upward adjustment as set forth in the Certificate of Designation if we fail to pay, or to set apart funds to pay, any quarterly dividend. The dividend rate is also subject to upward adjustment as set forth in the Registration Rights Agreement entered into with the Initial Purchasers if we fail to satisfy our registration obligations with respect to the Series B Preferred Stock (or the underlying common shares) under the Registration Rights Agreement.
The dividend on the Series B Preferred Stock may be paid in cash; or at the option of the Company, in shares of our common stock, which will be registered pursuant to a registration statement to allow for the immediate sale of these common shares in the public market. Dividends of $3.2 million were paid in cash in each of the years ended October 31, 2016, 2015 and 2014. There were no cumulative unpaid dividends at October 31, 2016 and 2015.
•
Liquidation - The Series B Preferred Stock stockholders are entitled to receive, in the event that we are liquidated, dissolved or wound up, whether voluntary or involuntary, $1,000 per share plus all accumulated and unpaid dividends to the date of that liquidation, dissolution, or winding up (“Liquidation Preference”). Until the holders of Series B Preferred Stock receive their Liquidation Preference in full, no payment will be made on any junior shares, including shares of our common stock. After the Liquidation Preference is paid in full, holders of the Series B Preferred Stock will not be entitled to receive any further distribution of our assets. At October 31, 2016 and 2015, the Series B Preferred Stock had a Liquidation Preference of $64.0 million.
•
Conversion Rights - Each Series B Preferred Stock share may be converted at any time, at the option of the holder, into 7.0922 shares of our common stock (which is equivalent to an initial conversion price of $141 per share) plus cash in lieu of fractional shares. The conversion rate is subject to adjustment upon the occurrence of certain events, as described below, but will not be adjusted for accumulated and unpaid dividends. If converted, holders of Series B Preferred Stock do not receive a cash payment for all accumulated and unpaid dividends; rather, all accumulated and unpaid dividends are canceled.
We may, at our option, cause shares of Series B Preferred Stock to be automatically converted into that number of shares of our common stock that are issuable at the then prevailing conversion rate. We may exercise our conversion right only if the closing price of our common stock exceeds 150% of the then prevailing conversion price ($141 at October 31, 2016) for 20 trading days during any consecutive 30 trading day period, as described in the Certificate of Designation.
If holders of Series B Preferred Stock elect to convert their shares in connection with certain fundamental changes, as defined, we will in certain circumstances increase the conversion rate by a number of additional shares of common stock upon conversion or, in lieu thereof, we may in certain circumstances elect to adjust the conversion rate and related conversion obligation so that shares of our Series B Preferred Stock are converted into shares of the acquiring or surviving company, in each case as described in the Certificate of Designation.
The adjustment of the conversion price is to prevent dilution of the interests of the holders of the Series B Preferred Stock from certain dilutive transactions with holders of common stock.
•
Redemption - We do not have the option to redeem the shares of Series B Preferred Stock. However, holders of the Series B Preferred Stock can require us to redeem all or part of their shares at a redemption price equal to the Liquidation Preference of the shares to be redeemed in the case of a fundamental change, as defined.
We may, at our option, elect to pay the redemption price in cash or in shares of our common stock, valued at a discount of 5% from the market price of shares of our common stock, or any combination thereof. Notwithstanding the foregoing, we may only pay such redemption price in shares of our common stock that are registered under the Securities Act of 1933 and eligible for immediate sale in the public market by non-affiliates of the Company.
•
Voting Rights - Holders of Series B Preferred Stock currently have no voting rights.
Series 1 Preferred Shares
FuelCell Energy Ltd. (“FCE Ltd”), the Company's wholly owned subsidiary, has 1,000,000 Series 1 Preferred Shares outstanding, Preferred Shares”) which are held by Enbridge, Inc. ("Enbridge"). FuelCell guarantees the return of principal and dividend obligations of FCE Ltd. to the Series 1 preferred shareholder.
The terms of the Series 1 Preferred Shares includes payments of (i) annual dividend payments of Cdn. $500,000 and (ii) annual return of capital payments of Cdn. $750,000. These payments commenced on March 31, 2011 and will end on December 31, 2020. On December 31, 2020 the amount of all accrued and unpaid dividends on the Series 1 Preferred Shares of Cdn. $21.1 million and the balance of the principal redemption price of Cdn. $4.4 million shall be paid to the holders of the Series 1 Preferred Shares. FCE Ltd. has the option of making dividend payments in the form of common stock or cash under the Series 1 Preferred Shares provisions.
Because the Series 1 preferred shares are classified as a mandatorily redeemable financial instrument, they are presented as a liability on the consolidated balance sheet.
The Company made its scheduled payments of Cdn. $1.3 million during each of fiscal year 2016, 2015 and 2014, under the terms of the agreement, including the recording of interest expense, which reflects the amortization of the fair value discount of approximately Cdn. $2.4 million, Cdn. $2.3 million and Cdn. $2.1 million, respectively. At October 31, 2016 and 2015, the carrying value of the Series 1 Preferred shares was Cdn. $18.0 million ($13.5 million) and Cdn. 16.9 million ($12.6 million), respectively and is classified as preferred stock obligation of subsidiary on the consolidated balance sheets.
In addition to the above, the significant terms of the Series 1 Preferred Shares include the following:
•
Voting Rights -The holders of the Series 1 Preferred Shares are not entitled to any voting rights.
•
Dividends - Dividend payments can be made in cash or common stock of the Company, at the option of FCE Ltd., and if common stock is issued it may be unregistered. If FCE Ltd. elects to make such payments by issuing common stock of the Company, the number of common shares is determined by dividing the cash dividend obligation by 95% of the volume weighted average price in US dollars at which board lots of the common shares have been traded on NASDAQ during the 20 consecutive trading days preceding the end of the calendar quarter for which such dividend in common shares is to be paid converted into Canadian dollars using the Bank of Canada’s noon rate of exchange on the day of determination.
•
Redemption - The Series 1 Preferred Shares are redeemable by FCE Ltd. for Cdn. $25 per share less any amounts paid as a return of capital in respect of such share plus all unpaid dividends and accrued interest. Holders of the Series 1 Preferred Shares do not have any mandatory or conditional redemption rights.
•
Liquidation or Dissolution - In the event of the liquidation or dissolution of FCE Ltd., the holders of Series 1 Preferred Shares will be entitled to receive Cdn. $25 per share less any amounts paid as a return of capital in respect of such share plus all unpaid dividends and accrued interest. The Company has guaranteed any liquidation obligations of FCE Ltd.
•
Exchange Rights - A holder of Series 1 Preferred Shares has the right to exchange such shares for fully paid and non-assessable common stock of the Company at the following exchange prices:
•
Cdn. $1,664.52 per share of common stock after July 31, 2015 until July 31, 2020; and
•
at any time after July 31, 2020, at a price equal to 95% of the then current market price (in Cdn. $) of the Company’s common stock at the time of conversion.
The exchange rates set forth above shall be adjusted if the Company: (i) subdivides or consolidates the common stock; (ii) pays a stock dividend; (iii) issues rights, options or other convertible securities to the Company's common stockholders enabling them to acquire common stock at a price less than 95% of the then-current price; or (iv) fixes a record date to distribute to the Company's common stockholders shares of any other class of securities, indebtedness or assets.
Derivative liability related to Series 1 Preferred Shares
The conversion feature and variable dividend contained in the terms of the Series 1 Preferred Shares are not clearly and closely related to the characteristics of the Series 1 Preferred Shares. Accordingly, these features qualify as embedded derivative instruments and are required to be bifurcated and recorded as derivative financial instruments at fair value.
The conversion feature is valued using a lattice model. Based on the pay-off profiles of the Series 1 Preferred Shares, it is assumed that we will exercise the call option to force conversion in 2020. Conversion after 2020 delivers a fixed pay-off to the investor, and is modeled as a fixed payment in 2020. The cumulative dividend is modeled as a quarterly cash dividend component (to satisfy minimum dividend payment requirement), and a one-time cumulative dividend payment in 2020.
The variable dividend is valued using a Monte Carlo simulation model.
The assumptions used in these valuation models include historical stock price volatility, risk-free interest rate and a credit spread based on the yield indexes of technology high yield bonds, foreign exchange volatility as the security is denominated in Canadian dollars, and the closing price of our common stock. The aggregate fair value of these derivatives included within long-term debt and other liabilities on the consolidated balance sheets at October 31, 2016 and 2015 was $0.7 million.
Note 13. Segment Information
We are engaged in the development, design, production, construction and servicing of high temperature fuel cells for clean electric power generation. Critical to the success of our business is, among other things, our research and development efforts, both through customer-sponsored projects and Company-sponsored projects. The research and development activities are viewed as another product line that contributes to the development, design, production and sale of fuel cell products, however, it is not considered a separate operating segment. Due to the nature of the internal financial and operational reports reviewed by the chief operating decision maker, who does not review and assess financial information at a discrete enough level to be able to assess performance of research and development activities as if it operated as a standalone business segment, we have identified one business segment: fuel cell power plant production and research.
Revenues, by geographic location (based on the customer’s ordering location) for the years ended October 31, 2016, 2015 and 2014 were as follows (in thousands):
Service agreement revenue which is included within Service agreements and license revenues on the consolidated statement of operations was $26.6 million, $16.3 million and $21.7 million, for the years ended October 31, 2016, 2015 and 2014, respectively.
Long-lived assets located outside of the United States at October 31, 2016 and 2015 are not significant individually or in the aggregate.
Note 14. Benefit Plans
We have shareholder approved equity incentive plans, a shareholder approved Section 423 Stock Purchase Plan (the “ESPP”) and an employee tax-deferred savings plan, which are described in more detail below.
Equity Incentive Plans
The Company has 2006 and 2010 Equity Incentive Plans (collectively, the “Equity Plans”). In April 2016, the number of shares of common stock reserved for issuance under the Equity Plans was increased to 2.5 million shares by vote of a majority of the Company's security holders. The Board is authorized to grant incentive stock options, nonstatutory stock options, stock appreciation rights (“SARs”), restricted stock awards (“RSAs”), restricted stock units ("RSUs"), performance units, performance shares,
dividend equivalent rights and other stock based awards to our officers, key employees and non-employee directors. Stock options, RSAs and SARs have restrictions as to transferability. Stock option exercise prices are fixed by the Board but shall not be less than the fair market value of our common stock on the date of the grant. SARs may be granted in conjunction with stock options. Stock options generally vest ratably over 4 years and expire 10 years from the date of grant. The Company also has an international award program to provide RSUs for the benefit of certain employees outside the United States. At October 31, 2016, there were 0.8 million shares available for grant. At October 31, 2016, equity awards outstanding consisted of incentive stock options, nonstatutory stock options, RSAs and RSUs.
The Company's 1998 Equity Incentive Plan remains in effect only to the extent of awards outstanding under the plan at October 31, 2016.
Share-based compensation was reflected in the consolidated statements of operations as follows (in thousands):
Stock Options
We account for stock options awarded to employees and non-employee directors under the fair value method. The fair value of stock options is estimated on the grant date using the Black-Scholes option valuation model and the following weighted-average assumptions:
The expected life is the period over which our employees are expected to hold the options and is based on historical data for similar grants. The risk free interest rate is based on the expected U.S. Treasury rate over the expected life. Expected volatility is based on the historical volatility of our stock. Dividend yield is based on our expected dividend payments over the expected life.
The following table summarizes our stock option activity for the year ended October 31, 2016:
The weighted average grant-date fair value per share for options granted during the years ended October 31, 2016, 2015 and 2014 was $6.44, $13.24 and $21.48, respectively. There were no options exercised in fiscal year 2016, 2015 or 2014.
The following table summarizes information about stock options outstanding and exercisable at October 31, 2016:
There was no intrinsic value for options outstanding and exercisable at October 31, 2016.
Restricted Stock Awards and Units
The following table summarizes our RSA and RSU activity for the year ended October 31, 2016:
RSA and RSU expense is based on the fair value of the award at the date of grant and is amortized over the vesting period, which is generally 4 years. At October 31, 2016, the 1.0 million outstanding RSAs and RSUs had an average remaining life of 2.8 years and an aggregate intrinsic value of $3.0 million.
At October 31, 2016, total unrecognized compensation cost related to RSAs including RSUs was $7.5 million which is expected to be recognized over the next 2.8 years on a weighted-average basis.
Stock Awards
During the years ended October 31, 2016, 2015 and 2014, we awarded 24,379; 2,399 and 979 shares, respectively, of fully vested, unrestricted common stock to the independent members of our board of directors as a component of board of director compensation which resulted in recognizing $0.2 million, $0.1 million and $0.1 million of expense for each of the respective years.
Employee Stock Purchase Plan
Under the ESPP, eligible employees have the right to purchase shares of common stock at the lesser of (i) 85% of the last reported sale price of our common stock on the first business day of the offering period, or (ii) 85% of the last reported sale price of the common stock on the last business day of the offering period, in either case rounded up to avoid impermissible trading fractions. Shares issued pursuant to the ESPP contain a legend restricting the transfer or sale of such common stock for a period of 0.5 years after the date of purchase.
ESPP activity for the year ended October 31, 2016 was as follows:
The fair value of shares under the ESPP was determined at the grant date using the Black-Scholes option-pricing model with the following weighted average assumptions:
The weighted-average fair value of shares issued under the ESPP during fiscal year 2016 and 2015 was $6.86 and $16.08 per share, respectively.
Employee Tax-Deferred Savings Plans
We offer a 401(k) plan (the “Plan”) to all full time employees that provides for tax-deferred salary deductions for eligible employees (beginning the first month following an employee’s hire date). Employees may choose to make voluntary contributions of their annual compensation to the Plan, limited to an annual maximum amount as set periodically by the Internal Revenue Service. Employee contributions are fully vested when made. Under the Plan, there is no option available to the employee to receive or purchase our common stock. Matching contributions of 2% under the Plan aggregated $0.6 million, $0.4 million and $0.3 million for the years ended October 31, 2016, 2015, and 2014, respectively.
Note 15. Income Taxes
The components of loss from continuing operations before income taxes for the years ended October 31, 2016, 2015, and 2014 were as follows (in thousands):
There was current income tax expense of $0.5 million, $0.3 million and $0.5 million related to foreign withholding taxes and income taxes in South Korea and no deferred federal income tax expense (benefit) for the years ended October 31, 2016, 2015 and 2014. Franchise tax expense, which is included in administrative and selling expenses, was $0.4 million for year ended October 31, 2016 and $0.2 million for each of the years ended October 31, 2015 and 2014.
The reconciliation of the federal statutory income tax rate to our effective income tax rate for the years ended October 31, 2016, 2015 and 2014 was as follows:
Our deferred tax assets and liabilities consisted of the following at October 31, 2016 and 2015 (in thousands):
We continually evaluate our deferred tax assets as to whether it is “more likely than not” that the deferred tax assets will be realized. In assessing the realizability of our deferred tax assets, management considers the scheduled reversal of deferred tax liabilities, projected future taxable income and tax planning strategies. Based on the projections for future taxable income over the periods in which the deferred tax assets are realizable, management believes that significant uncertainty exists surrounding the recoverability of the deferred tax assets. As a result, we recorded a full valuation allowance against our deferred tax assets. None of the valuation allowance will reduce additional paid in capital upon subsequent recognition of any related tax benefits. In connection with our 2012 acquisition of Versa we recorded a deferred tax liability for IPR&D, which has an indefinite life. Accordingly, we do not consider it to be a source of taxable income in evaluating the recoverability of our deferred tax assets.
At October 31, 2016, we had federal and state NOL carryforwards of $748.6 million and $405.8 million, respectively, for which a portion of the NOL has not been recognized in connection with share-based compensation. The Federal NOL carryforwards expire in varying amounts from 2020 through 2035 while state NOL carryforwards expire in varying amounts from fiscal year 2017 through 2035. Additionally, we had $11.1 million of state tax credits available, of which $0.7 million expires in fiscal year 2018. The remaining credits do not expire.
Certain transactions involving the Company’s beneficial ownership occurred in fiscal year 2014 and prior years, which could have resulted in a stock ownership change for purposes of Section 382 of the Internal Revenue Code of 1986, as amended. We have completed a detailed Section 382 study in fiscal year 2016 to determine if any of our NOL and credit carryovers will be subject to limitation. Based on that study we have determined that there was no ownership change as of the end of our fiscal year 2016 under Section 382. The acquisition of VERSA in fiscal year 2013 triggered a Section 382 ownership change which will limit the
future usage of some of the Federal and state NOLs. The Federal and state NOLs that are non 382-limited are included in the NOL deferred tax assets as disclosed.
As discussed in Note 1, the Company’s financial statements reflect expected future tax consequences of uncertain tax positions that the Company has taken or expects to take on a tax return (including a decision whether to file or not file a return in a particular jurisdiction) presuming the taxing authorities’ full knowledge of the position and all relevant facts.
The liability for unrecognized tax benefits at October 31, 2016 and 2015 was $15.7 million. This amount is directly associated with a tax position taken in a year in which federal and state NOL carryforwards were generated. Accordingly, the amount of unrecognized tax benefit has been presented as a reduction in the reported amounts of our federal and state NOL carryforwards. It is our policy to record interest and penalties on unrecognized tax benefits as income taxes; however, because of our significant NOLs, no provision for interest or penalties has been recorded.
We file income tax returns in the U.S. and various states, primarily Connecticut and California, as well as income tax returns required internationally for South Korea and Germany. We are open to examination by the Internal Revenue Service and various states in which we file for fiscal year 2000 to the present. We are currently not under any income tax examinations.
Note 16. Earnings Per Share
Basic earnings (loss) per common share (“EPS”) are generally calculated as income (loss) available to common shareholders divided by the weighted average number of common shares outstanding. Diluted EPS is generally calculated as income (loss) available to common shareholders divided by the weighted average number of common shares outstanding plus the dilutive effect of common share equivalents.
The calculation of basic and diluted EPS for the years ended October 31, 2016, 2015 and 2014 was as follows:
(1)
Due to the net loss to common shareholders in each of the years presented above, diluted earnings per share was computed without consideration to potentially dilutive instruments as their inclusion would have been antidilutive. At October 31, 2016 and 2015, potentially dilutive securities excluded from the diluted loss per share calculation are as follows:
(2)
Refer to Note 12, Redeemable Preferred Stock, for information on the calculation of the common shares upon conversion.
Note 17. Commitments and Contingencies
Lease agreements
At October 31, 2016 and 2015, we had capital lease obligations of $0.7 million. Lease payment terms are thirty-six months from the date of lease.
We also lease certain computer and office equipment and manufacturing facilities in Torrington and Danbury, Connecticut under operating leases expiring on various dates through 2019. Rent expense was $1.8 million, $1.7 million and $1.7 million for the years ended October 2016, 2015 and 2014, respectively.
On April 22, 2016, the Company modified its Torrington, Connecticut, lease to extend the term for an additional period of 15 years from January 1, 2016, and to provide the Company the right to expand the existing facility to 167,000 square feet. The Company has the right to purchase the facility and premises for a price of $4.7 million at any time during the fifteen year term, but no later than December 31, 2030.
Non-cancelable minimum payments applicable to operating and capital leases at October 31, 2016 were as follows (in thousands):
Service and Warranty Agreements
Under the provisions of our service agreements, we provide services to maintain, monitor, and repair customer power plants to meet minimum operating levels. Under the terms of our service agreements, the power plant must meet a minimum operating output during the term. If minimum output falls below the contract requirement, we may be subject to performance penalties and/or may be required to repair or replace the customer’s fuel cell module. An estimate is not recorded for a potential performance guarantee liability until a performance issue has occurred on a particular power plant. At that point, the actual power plant’s output is compared against the minimum output guarantee and an accrual is recorded. The review of power plant performance is updated for each reporting period to incorporate the most recent performance of the power plant and minimum output guarantee payments made to customers, if any. The Company has provided for an accrual for performance guarantees, based on actual historical fleet performance, which totaled $3.3 million and $2.6 million at October 31, 2016 and 2015, respectively, and is recorded in Accrued Liabilities.
Our loss accrual on service agreements, excluding the accrual for performance guarantees, totaled $2.7 million and $0.8 million at October 31, 2016 and 2015, respectively and is recorded in Accrued Liabilities. Our accrual estimates are performed on a contract by contract basis and include cost assumptions based on what we anticipate the service requirements will be to fulfill obligations for each contract.
Power Purchase Agreements
Under the terms of our PPAs, customers agree to purchase power from our fuel cell power plants at negotiated rates. Electricity rates are generally a function of the customers’ current and future electricity pricing available from the grid. As owner of the power plants, we are responsible for all operating costs necessary to maintain, monitor and repair the power plants. Under certain agreements, we are also responsible for procuring fuel, generally natural gas, to run the power plants. We are typically not required to produce minimum amounts of power under our PPA agreements and we typically have the right to terminate PPA agreements by giving written notice to the customer, subject to certain exit costs.
Expansion of Torrington Facility and Related Low-Cost Financing
In December 2015, the Company commenced the first phase of its project to expand the existing 65,000 square foot manufacturing facility in Torrington, Connecticut by approximately 102,000 square feet for a total size of 167,000 square feet. Initially, this additional space will be used to enhance and streamline logistics functions through consolidation of satellite warehouse locations
and will provide the space needed to reconfigure the existing production process to improve manufacturing efficiencies and realize cost savings.
On November 9, 2015, the Company closed on a definitive Assistance Agreement with the State of Connecticut and received a disbursement of $10.0 million to be used for the first phase of the expansion project. In conjunction with this financing, the Company entered into a $10.0 million Promissory Note and related security agreements. See Note 10 for additional information. The second phase of our manufacturing expansion, for which we will be eligible to receive an additional $10.0 million in low-cost financing from the State of Connecticut, will commence as demand supports.
The first phase of the expansion is expected to result in expenditures of up to $23.0 million that will be partially off-set by the $10.0 million of first phase funding received from the State of Connecticut. The total investment for both phases of the expansion could be up to $65.0 million over a five year period, of which $20.0 million will be funded by low cost financing from the State of Connecticut.
Other
At October 31, 2016, the Company has unconditional purchase commitments aggregating $61.7 million, for materials, supplies and services in the normal course of business.
Under certain sales and financing agreements the Company is contractually committed to provide compensation for any losses that our customers and finance partners may suffer in certain limited circumstances resulting from reductions in the U.S. Investment Tax Credit. Such obligations would arise as a result of reductions to the value of the underlying fuel cell projects as assessed by the U.S. Internal Revenue Service (IRS). The Company does not believe that any payments under these contracts are probable based on the facts known at the reporting date. The maximum potential future payments that the Company could have to make under this obligation would depend on the difference between the fair values of the fuel cell projects sold or financed and the values the IRS would determine as the fair value for the systems for purposes of claiming the Investment Tax Credit. The value of the Investment Tax Credit in the Company’s agreements is based on guidelines provided by the statutory regulations from the IRS. The Company and its customers use fair values determined with the assistance of independent third-party appraisals.
We are involved in legal proceedings, claims and litigation arising out of the ordinary conduct of our business. Although we cannot assure the outcome, management presently believes that the result of such legal proceedings, either individually, or in the aggregate, will not have a material adverse effect on our consolidated financial statements, and no material amounts have been accrued in our consolidated financial statements with respect to these matters.
Note 18. Supplemental Cash Flow Information
The following represents supplemental cash flow information (dollars in thousands):
Note 19. Quarterly Information (Unaudited)
Selected unaudited financial data for each quarter of fiscal year 2016 and 2015 is presented below. We believe that the information reflects all normal recurring adjustments necessary for a fair presentation of the information for the periods presented.
(in thousands)
(1)
The full year net loss to common shareholders basic and diluted share may not equal the sum of the quarters due to weighting of outstanding shares.
Note 20. Subsequent Events
On November 30, 2016, a business restructuring was completed to reduce costs and align production levels with current levels of demand in a manner that is consistent with the Company’s long-term strategic plan.
The Company is reducing materials spend as well as implementing various cost control initiatives. The workforce was reduced at both the North American production facility in Torrington, Connecticut, as well as at corporate offices in Danbury and remote locations. A total of 96 positions, or approximately 17% of the global workforce, was impacted. The production rate has been reduced to twenty-five megawatts annually, from the prior rate of fifty megawatts annually, in order to position for delays in anticipated order flow. A personnel-related restructuring charge of approximately $3.0 million will be incurred in fiscal year 2017, with approximately one half of the charge composed of cash severance costs and the remainder representing non-cash charges. This production level is anticipated to be temporary and will be reevaluated as order flow dictates, with any future increases being undertaken from what is now a lower cost basis.
Item 9.
Item 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
Item 9A.
Item 9A.
CONTROLS AND PROCEDURES
Disclosure Controls and Procedures.
The Company maintains disclosure controls and procedures, which are designed to provide reasonable assurance that information required to be disclosed in the Company’s periodic SEC reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to its principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.
We carried out an evaluation, under the supervision and with the participation of our principal executive officer and principal financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the Company’s principal executive officer and principal financial officer have concluded that the Company’s disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the Company’s periodic SEC reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to its principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.
Management’s Annual Report on Internal Control Over Financial Reporting.
We, as members of management of FuelCell Energy, Inc., and its subsidiaries (the “Company”), are responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles in the United States of America. Internal control over financial reporting includes those policies and procedures that:
•
Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the Company;
•
Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles of the United States of America, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and
•
Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.
Under the supervision and with the participation of management, including our principal executive and financial officers, we assessed the Company’s internal control over financial reporting as of October 31, 2016, based on criteria for effective internal control over financial reporting established in the Internal Control - Integrated Framework 2013, issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on this assessment, we have concluded that the Company maintained effective internal control over financial reporting as of October 31, 2016 based on the specified criteria. The Company's independent registered public accounting firm, KPMG LLP, has issued an audit report on the Company's internal control over financial reporting, which appears in Part II, Item 8 of this Form 10-K.
Changes in Internal Control Over Financial Reporting.
Our management has evaluated, with the participation of our principal executive and principal financial officers, whether any changes in our internal control over financial reporting that occurred during our last fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Based on the evaluation we conducted, our management has concluded that no such changes have occurred.
We completed the implementation of the first phase of an enterprise resource planning ("ERP") system on November 1, 2015. This includes the manufacturing facility in Torrington, CT and the headquarters in Danbury, CT. The ERP is expected to improve the efficiency of our supply chain and financial transaction processes. The global implementation is expected to occur in phases over the next several years. As with any new information technology application we implement, this application, along with the internal controls over financial reporting included in this process, were tested for effectiveness. We concluded, as part of our evaluation described in the above paragraph, that the implementation of an ERP system has not materially affected, and is not reasonably likely to materially affect, our internal control over financial reporting.
Item 9B.
Item 9B.
OTHER INFORMATION
None.
PART III
Item 10.
Item 10.
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required by this Item 10, with respect to our executive officers, is included in Part I of the Annual Report on Form 10-K. The other information required by this Item 10 is incorporated by reference to the Company’s 2016 Proxy Statement to be filed with the SEC within 120 days from fiscal year end.
Information required under this Item is incorporated by reference to the Company’s 2016 Proxy Statement to be filed with the SEC within 120 days from fiscal year end.
Item 12.
Item 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
Information required under this Item is incorporated by reference to the Company’s 2016 Proxy Statement to be filed with the SEC within 120 days from fiscal year end.
Item 13.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
Information required under this Item is incorporated by reference to the Company’s 2016 Proxy Statement to be filed with the SEC within 120 days from fiscal year end.
Item 14.
Item 14.
PRINCIPAL ACCOUNTING FEES AND SERVICES
Information required under this Item is incorporated by reference to the Company’s 2016 Proxy Statement to be filed with the SEC within 120 days from fiscal year end.
PART IV
Item 15.
Item 15.
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
The following documents are filed as part of this report:
Financial Statements - See Index to Consolidated Financial Statements at Item 8 of the Annual Report on Form 10-K.
Financial Statement Schedules - Supplemental schedules are not provided because of the absence of conditions under which they are required or because the required information is given in the financial statements or notes thereto
Exhibits - The following exhibits are filed as part of, or incorporated by reference into, this Annual Report on Form 10-K.
EXHIBITS TO THE 10-K
The exhibits marked with the section symbol (#) are interactive data files. Pursuant to Rule 406T of Regulation S-T, these interactive data files (i) are not deemed filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, are not deemed filed for purposes of Section 18 of the Securities Exchange Act of 1934, irrespective of any general incorporation language included in any such filings, and otherwise are not subject to liability under these sections; and (ii) are deemed to have complied with Rule 405 of Regulation S-T (“Rule 405”) and are not subject to liability under the anti-fraud provisions of the Section 17(a)(1) of the Securities Act of 1933, Section 10(b) of the Securities Exchange Act of 1934 or under any other liability provision if we have made a good faith attempt to comply with Rule 405 and, after we become aware that the interactive data files fail to comply with Rule 405, we promptly amend the interactive data files.
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Management Contract or Compensatory Plan or Arrangement
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Confidential Treatment has been granted for portions of this document
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized on January 12, 2017.
FUELCELL ENERGY, INC.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Signature
Capacity
Date
/s/ Arthur A. Bottone
Arthur A. Bottone
President, Chief Executive Officer and Director
(Principal Executive Officer)
January 12, 2017
/s/ Michael S. Bishop
Michael S. Bishop
Senior Vice President, Chief Financial Officer, Treasurer and Corporate Secretary
(Principal Accounting and Financial Officer)
January 12, 2017
/s/ James H. England
James H. England
Director
January 7, 2017
INDEX OF EXHIBITS