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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended: October 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___________ to ___________
Commission File Number: 0-24852
FUELCELL ENERGY, INC.
(Exact name of registrant as specified in its charter)
----------
Delaware 06-0853042
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
3 Great Pasture Road
Danbury, Connecticut 06813
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (203) 825-6000
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.0001 par value per share
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes |X| No |_|
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |_|
The aggregate market value of voting stock held by non-affiliates of the
registrant was approximately $204,755,246, which is based on the closing price
of $ 46.00 on January 24, 2000. On January 24, 2000 there were 6,334,831 shares
of Common Stock of the registrant issued and outstanding.
DOCUMENTS INCORPORATED BY REFERENCE Certain information contained in the
registrant's definitive proxy statement relating to its forthcoming 2000 Annual
Meeting of Stockholders to be filed not later than 120 days after the end of
registrant's fiscal year ended October 31, 1999 is incorporated by reference in
Part III of this Report on Form 10-K ANNUAL REPORT
================================================================================
FUELCELL ENERGY, INC.
INDEX
Description Page Number
----------- -----------
Part I
Item 1 Business 3
Item 2 Properties 18
Item 3 Legal Proceedings 18
Item 4 Submission of Matters to a Vote of Security Holders 18
Part II
Item 5 Market for the Registrant's Common Equity and Related Stockholder Matters 19
Item 6 Selected Financial Data 20
Item 7 Management's Discussion and Analysis of Financial Condition and 21
Results of Operations
Item 7A Quantitative and Qualitative Disclosures about Market Risk 24
Item 8 Financial Statements and Supplementary Data 24
Item 9 Changes In and Disagreements with Accountants on Accounting and Financial 24
Disclosure
Part III
Item 10 Directors and Executive Officers of the Registrant 25
Item 11 Executive Compensation 25
Item 12 Security Ownership of Certain Beneficial Owners and Management 25
Item 13 Certain Relationships and Related Transactions 25
Part IV
Item 14 Exhibits, Financial Statement Schedules and Reports on Form 8-K 25
Signatures 29
2
Forward-looking Statement Disclaimer
When used in this Report, the words "expects", "anticipates", "estimates",
"should", "will", "could", "would", "may", and similar expressions are intended
to identify forward-looking statements. Such statements include statements
relating to the development and commercialization schedule for the Company's
fuel cell technology, future funding under government contracts, the expected
cost competitiveness of its technology, and the timing and availability of
products under development. These and other forward looking statements contained
in this Report are subject to risks and uncertainties, known and unknown, that
could cause actual results to differ materially from those forward-looking
statements, including, without limitation, general risks associated with product
development and introduction, changes in the utility regulatory environment,
potential volatility of energy prices, government appropriations, the ability of
the government to terminate its development contracts at any time, rapid
technological change, and competition, as well as other risks. The Company
cannot assure that it will be able to meet any of its development or
commercialization schedules, that the government will appropriate the funds
anticipated by the Company under its government contracts, that the government
will not exercise its right to terminate any or all of the Company's government
contracts, that any of the Company's products or technology, once developed,
will be commercially successful, or that the Company will be able to achieve any
other result anticipated in any other forward-looking statement contained
herein. The forward-looking statements contained herein speak only as of the
date of this Report. The Company expressly disclaims any obligation or
undertaking to release publicly any updates or revisions to any such statement
to reflect any change in the Company's expectations or any change in events,
conditions or circumstances on which any such statement is based.
PART I
Item 1. Business
Introduction
FuelCell Energy, Inc. (the "Company") is a leading developer of electrochemical
technologies for electric power generation and has developed a proprietary
patented fuel cell which it believes has significant advantages in terms of fuel
efficiency and cost over competing fuel cells for stationary power generation. A
fuel cell is a device which electrochemically converts the chemical energy of a
fossil fuel into electricity without the combustion of fuel. The fuel cell
system feeds a fuel, such as natural gas, into the fuel cell where the fuel and
air undergo an electrochemical reaction to produce electricity.
From its founding in 1969, the Company focused on developing fuel cells and
specialized batteries. These efforts resulted in the Company obtaining various
patents and expertise in these electrochemical technologies. For the last
sixteen years the Company has concentrated on developing products availing
itself of substantial funding from the United States Department of Energy
("DOE"), the United States Department of Defense ("DOD"), and other outside
sources such as the MTU division of DaimlerChrysler.
The Company's patented fuel cell technology is known as the Direct FuelCell(TM)
("DFC") because it introduces the hydrocarbon fuel, such as pipeline natural
gas, directly into the fuel cell without requiring external reforming for
producing hydrogen. This "one-step" operation results in a significantly more
efficient, simpler and more cost-effective energy system compared with most
other fuel cells which utilize complex external reforming equipment to convert
the fuel to hydrogen. The Company is currently concentrating its efforts on the
commercialization of its carbonate fuel cell, the Direct FuelCell(TM). The
Direct FuelCell(TM) has demonstrated grid-connected operation at Santa Clara in
1996, and most recently in Danbury since March of 1999, and in Bielefeld,
Germany since November of 1999.
The Company has licensed its fuel cell internationally to several major
corporations, including MTU-Friedrichshafen GmbH ("MTU"), a subsidiary of
DaimlerChrysler.
On February 22, 1999, the Company effected a spin-off to its stockholders of
100% of the shares of Evercel, Inc. ("Evercel"), a wholly-owned subsidiary of
the Company. In connection with this transaction, the Company transferred to
Evercel the principal assets, liabilities, and intellectual property related to
its battery operations.
3
Following the transfer, the Company distributed to its stockholders in a
tax-free distribution one share of Evercel common stock for every three shares
of common stock of the Company.
Recent Developments -- Three for Two Stock Dividend
On November 16, 1999, the Company paid a stock dividend of one additional share
of common stock for every two shares of the Company's common stock held on
November 1, 1999, the record date. All per share data and the number of shares
of common stock have been adjusted retroactively to give effect to the stock
dividend.
Business
Industry Background
According to the U.S. Department of Energy's ("DOE"), "Energy Information
Administration Energy Outlook 1999" report, a projected 363 gigawatts (363,000
MWs) of new capacity generation will be needed by 2020 to meet the growing
demand for electricity and to offset planned retirements of generating capacity.
This is approximately $300 to $500 billion of new generating capacity.
Approximately 81% of this new capacity is projected to be fueled by natural gas
which is well suited to the Company's technology.
The U.S. electric utility industry has been changing for several years triggered
in part by the Energy Policy Act of 1992, which called for open access for
consumers. In 1994, a major upheaval in the industry began as a result of
significant moves toward direct access and deregulation of the electric utility
industry in various states. As a result, a heightened atmosphere of competition,
as well as uncertainty, exists in the industry. Furthermore, some electric
utilities have already decided to phase out of the power generation aspect of
the business, leaving it to independent power producers and non-utility
generators. Others have merged with either other electric utilities or gas
supply companies. A number of significant mergers of this type have taken place
and further major reorganizations are anticipated. Regardless of the
reorganization of the electric utility industry, substantial generation
equipment will be required. The Company believes utility deregulation along with
the prospects of wholesale and retail wheeling of electric power (the sharing of
electricity from multiple sources) create uncertainty as to the future which
will discourage utilities from adding substantial new centralized generation
during the next several years. Even the wheeling of power over long distances
will result in additional energy losses over transmission lines, thus offsetting
some of the gains achieved by balancing power usage and keeping pressure on
capacity margins. These factors, together with tougher environmental laws, the
need to relicense nuclear plants which may not be economically feasible in some
cases, and the aging of U.S. power plants result in market opportunities at the
time the Company is bringing its products to market.
The Distributed Power Coalition of America defines distributed generation as
"any small-scale power generation technology that provides electric power at or
closer to the customer's site than centrally sited generation stations." This
concept, while simple, has been very difficult to cost-effectively implement in
practice. The most cost-effective electrical generation equipment has
historically been oil or coal-fired power plants. Because of the laws of
thermodynamics, these plants are most efficient at large (greater than 500 MW)
sizes. Also, due to the noxious emissions they produce, power plants are
generally situated away from population centers with extensive transmission and
distribution systems being used to deliver power to end users. While this
centralized generation / transmission system of electricity production has
worked well for a century, new technological advances coupled with increasing
concern for environmental protection are enabling the initial promise of
distributed generation to become a reality.
The case for why distributed generation will play a growing role in electricity
generation in the US and around the world is supported by three related, global
trends. The first and most important trend is electricity deregulation and
privatization as described above, which will allow new entrants into the
electricity generation sphere, as customers will be free to choose power
producers and marketers. The second trend accelerating distributed generation is
the rapid improvement of electricity generation technology, especially fuel
cells. The final trend is an increasing worldwide awareness that environmental
issues, especially air pollution, should be addressed and resolved.
4
Currently in the US, approximately 86% of the 811 gigawatts ("GW") of installed
power generating capacity is in the form of traditional, centralized generating
facilities. While distributed generation accounts for approximately 14% of this
installed power generation capacity in the US, an energy consulting firm, Frost
& Sullivan, forecasts that distributed generation applications will account for
at least 20% of capacity added through the year 2003. Other industry predictions
range as high as 40% capture by distributed generation technology throughout the
next decade. As a result of this study and other consultant reports, the Company
believes that the combined available US and European market for distributed
generation will reach approximately 5,400 MW per year by 2001 and approximately
7,600 MW per year by 2004.
In their 1999 report on Small-Scale Power Generation, Business Communications
Co., Inc. states that fuel cells have emerged as one of the most promising
technologies for meeting the growing worldwide energy needs well into the next
century. They project that during the period between 1998 and 2003, small-scale
power generation will grow at an average annual rate of 14.9% in the U.S. and
28.4% worldwide, and that the total annual market in 2003 for fuel cells can be
expected to reach $1.3 billion. The Company expects this trend to grow rapidly
beyond 2003 as fuel cells gain market acceptance and fuel cell product cost
begins to challenge the product cost of traditional generating technologies.
The Company believes that the restructuring of the utility industry and the
growth of the distributed generation market discussed above, greatly enhance its
market opportunities. Newly formed entities are working to find the best market
solution for the customer. Increasing demands are being put on efficiency, power
quality, power reliability, lifetime, low maintenance and environmental
compatibility and cost. The use of highly efficient and flexible heat and power
generating systems is being investigated by every potential energy company in
the world. The Company's fuel cells have the capability to meet these demands in
a wide variety of settings offer an excellent enabling technology to energy
services companies.
The Company's Direct FuelCell(TM)
The Company concentrates its efforts on the development, demonstration, and
commercialization of the Company's patented carbonate fuel cell for generating
electricity. Different types of fuel cells are distinguished generally by the
electrolyte medium they use. The Company's Direct FuelCell(TM) system employs
metal carbonates as the electrolyte, hence the term "carbonate fuel cell". The
Company's fuel cell system feeds a fuel, such as natural gas, directly into the
fuel cell where the fuel and air undergo an electrochemical reaction to produce
electricity without the need for complex reforming equipment to create hydrogen
gas from the fuel. A fuel cell power plant can be thought of as having two basic
segments: the fuel cell stack module, which is the part that actually produces
the electricity, and the "balance of plant", which includes various fuel
handling and processing equipment, including requisite pipes and blowers,
computer controls, inverters to convert the DC output of the fuel cell to AC,
and other related equipment.
Conventional non-nuclear power plants burn a hydrocarbon such as coal, oil or
natural gas, to create heat. The heat boils water, converting it to steam, which
rotates a turbine, which produces the electricity. Some power plants use a
combined cycle approach where the heat is sent to gas turbines, and then to
raise steam, which produces additional power in steam turbines. Each step in
these processes consumes some of the potential energy in the fuel, and the
combustion process typically creates emissions of sulfur and nitrogen oxides,
carbon monoxide, soot and other air pollutants. Because of the non-combustion,
non-mechanical power generation process, the Company's fuel cell is much more
efficient than the conventional power plants. Emissions of sulfur and nitrogen
oxides are nearly zero, and other pollutants are minimal or non-existent. With
the only moving parts being the air blower, in contrast to large rotating
turbines, fuel cells are extremely quiet. In addition, fuel cells achieve high
efficiency at extremely small sizes, allowing fuel cells to satisfy market needs
for distributed generation, such as providing electrical power to a hospital or
a retail store.
The Company's patented Direct FuelCell(TM) uses hydrocarbon fuel without the
intermediate step (reforming) of creating hydrogen fuel, which is more
efficient, simpler and less costly as compared with other external-reforming
type fuel cells. The Direct FuelCell(TM) has been successfully demonstrated
using a variety of hydrocarbon fuels including natural gas, methanol, ethanol,
bio-gas, diesel, and coal gas. The Direct FuelCell(TM) operates at higher
temperatures than most other fuel cells. As a result, less expensive
electrocatalysts can be used and high quality heat energy is available for
cogeneration. Even though fuel cells are believed to be superior to conventional
generators in terms of efficiency, environmental characteristics, and
flexibility of size, commercial sales of fuel
5
cells have been minimal to date. The Company, as well as most potential
competitors in the field, has not yet completed development and commercial
release of their products. In addition, at such an early stage of the
technology's development, the selling price of a fuel cell is high, reflecting
the initial low production volume. The Company recognizes that achieving a
significant share of the power generation equipment market will require that the
Company offer its products at competitive prices, which can be accomplished when
production costs are reduced substantially from current levels.
Cost Reduction Progress
The Company has made significant progress in reducing the costs of its DFC(TM).
The total installed cost for the Santa Clara demonstration project in 1996
(discussed under Fuel Cell Development Program), was approximately $20,000 per
kW of capacity. The Company expects its next mega-watt ("MW") class field trial
will cost $8,000 per kW generating electricity at a cost of 17 cents per kWh.
Within five years, the Company expects to reduce the total installed cost to
less than $1,200 per kW resulting in a cost of electricity of approximately 5
cents per kWh.
These kWh cost estimates are fully inclusive, accounting for the cost of fuel,
installation, etc. The Company recognizes the need to educate end-users on the
true costs of its technology. The DFC(TM) generates power economically at
similar costs on a per kWh basis when compared to other distributed generation
technologies because the somewhat higher initial capital costs of the DFC(TM)
are offset by fuel savings from its higher efficiency. From a cost per kWh
standpoint, the DFC(TM) will be an economically attractive source of energy in
many places in the U.S. According to the DOE, electricity prices today vary
substantially depending on the region of the country. Prices in the highest cost
region (New York, with an average price of over 10 cents per kWh in 1998) are
almost 2.3 times as expensive as in the lowest cost region (the Northwest U.S.).
The DOE predicts that, even in a competitive environment, electricity prices in
New York will be 8.88 cents per kWh in 2005 and 8.84 cents per kWh in 2012. The
DFC(TM) will be a viable alternative as transmission and distribution costs, as
well as losses in efficiency due to transmission and distribution, will be
substantially lessened or eliminated.
The Company continues to achieve its cost goals through a combination of factors
including manufacturing process improvements, volume economies of scale,
completion or elimination of first time or one of a kind costs, and through
technology maturation that increases power output without additional product
cost as described below:
Manufacturing cost reduction: Manufacturing costs are being reduced by a
multi-faceted effort including supplier management, material and labor
utilization, vertical integration, and engineering for manufacturing
efficiencies.
Volume economies of scale: Volume directly affects purchased material cost
and reduces fixed cost allocation. Volume also has a secondary effect on direct
labor by providing justification to invest in capital projects for improved
productivity
First time costs: The elimination of first time development and engineering
costs is a large and rather straightforward element of the cost reduction plan.
At commercial volumes, power plant installations are expected to be virtually
identical. Furthermore, indirect costs associated with developing the initial
field trial projects will not exist.
Improved performance: Power plant performance is a critical factor. Power
output has a direct impact on capital cost as measured in cost per kilowatt
($/kW), and efficiency, decay rate and availability all impact the cost of
electricity which is the best measure of the value of the Company's product. The
Company's research and development activities have made substantial progress in
these areas (see "Fuel Cell Development Program").
The Company regularly reviews and revises its cost reduction plans. In addition,
the DOE has on several occasions assigned an independent outside auditor to
examine the Company's present and projected cost figures to determine if the
DOE's continued support of the Company through development contracts will
achieve its intent of creating commercially viable fuel cell power generation
technology in the U.S. The most recent such audit, completed in 1999, verified
that the Company's commercial design fuel cell is capable of being manufactured,
delivered and installed at a cost per kW of $1,196 assuming production of 400 MW
per year. The Company believes that this cost would be low enough to be
competitive in the marketplace.
6
Fuel Cell Development Program
During 1996 and 1997, the Company operated its "proof-of-concept" fuel cell
plant (the "Santa Clara Plant" or "SCDP") at a site in Santa Clara, California.
The demonstration involved the largest carbonate fuel cell power plant in the
world and the largest fuel cell of any type operated in the United States. The
Santa Clara Plant was initially designed to provide 1.8 megawatts. Following its
start up, the Santa Clara Plant achieved a peak power output of 1.93 megawatts,
adjusting for supplemental fuel achieved an electrical efficiency level of 50%,
a record for a single cycle fossil fuel cell power plant, and also achieved
record low emissions of sulfur and nitrogen oxides.
The Santa Clara Plant operated at various electrical outputs for almost one
year, half of such time being connected to the utility grid. Despite
encountering equipment problems unrelated to the basic fuel cell technology, the
Santa Clara Plant achieved most of the goals set by the Company for the project
and established new milestones. After the end of the operation of the Santa
Clara Plant in March 1997, all of the fuel cell stacks were returned to the
Company for comprehensive analysis. The Company used the results of this
analysis, along with the results of ongoing development activities, to develop a
commercial fuel cell design significantly more compact, reliable and
cost-effective than the Santa Clara Plant design. Based on data and analysis
from the SCDP and continued progress by company researchers, the Company
continues to advance the DFC(TM) design. A new generation of stack hardware has
been developed with cells which are 50% larger in area, 40% lighter per unit
area and 30% thinner than the SCDP design. These improvements have doubled the
power output from a full-height stack. The low-cost advanced cell design
incorporating these improvements has been refined through subscale stack tests,
which have shown the new cells to be more tolerant of load and thermal changes,
with no loss of performance in up to 10 thermal cycles.
In further efforts to develop the DFC(TM) for commercialization, the Company
built an integrated power plant facility that can operate DFC(TM) stacks up to
400 kW. A long-term endurance test on a 10 cell stack with the new cell hardware
has completed over 13,000 hours of operational testing. The stack has met the
performance stability goal for the Company's market entry product. In addition,
an internally insulated stack enclosure has been designed and fabricated. The
enclosure eliminates the need for inert stack environment gas, and provides for
a much more compact arrangement of each stack within the multistack modules.
To date, the Company has operated two full height stack demonstrations. Power
conversion efficiencies from pipeline natural gas to DC electricity of up to 47%
has been achieved. Since the test facilities are optimized for flexibility
instead of efficiency, this achieved efficiency level should translate to more
than 50% electrical efficiency in commercial operation, and more than 75%
employing cogeneration. This is well above most conventional means of producing
electricity in this size range.
Ruggedness of the product design was demonstrated in planned stress tests, such
as rapid ramp-up and thermal cycle tests. Another test simulated emergency fuel
loss, verifying that the DFC(TM) stack can be maintained in the field
cost-effectively despite fuel supply or power failures, without hampering
performance. To date, a total of more than 1,250,000 kWh have been produced
using a stack, which began operation in March of 1999. Total operation time has
exceeded 7,500 hours, including four thermal cycles.
The Company's current fuel cell power plant design will be capable of producing
the same output as the Santa Clara Plant with a footprint one ninth as large.
This reduction in size and increase in power per stack results in substantial
manufacturing cost savings. The Company anticipates a demonstration of a
commercial 1 MW fuel cell stack design in 2001, followed by further complete
power plant demonstrations.
Recent market research has indicated that the demand for fuel cell power plants
from early commercial adopters of the technology may be greater in the sub-MW
size than the larger sizes. To meet that demand, the Company plans to take
advantage of its license rights to the "Hot Module" fuel cell developed by MTU.
See "Partnerships, Joint Ventures and Licenses". This nominal 250kW design,
which incorporates the Company's fuel cell stacks, uses an innovative
integration of some of the elements of the balance-of-plant with the fuel cell
stack module, with the expectation of reducing costs to the power plant as a
whole. The design is very compact and specially suited for cogeneration
applications. During 1999, the Company delivered fuel cell assemblies to MTU for
a field demonstration of the Hot Module design at Bielefeld a municipal utility
in Germany. The cogeneration plant was successfully commissioned in November
1999, providing up to 225 kW of electricity and the by-product of high quality
heat, at an overall thermal efficiency exceeding 75% feeding 80,000 kWh to the
grid as of December 1999.
7
An additional demonstration of a hot module cogeneration plant is planned in
Germany during 2000. This plant, as before, will use Company supplied fuel cell
assemblies. The Company also plans to conduct its own field trials of a 250 kW
unit at a host site selected by Los Angeles Department of Water and Power.
Additional U.S. field trials are planned for late 2000. The Company is currently
revising MTU's design to comply with U.S. codes and standards.
Principal Development Contracts
The Company's revenues have been principally derived from U.S. government and
industry research and development contracts and license fee income. Government
funding provided approximately 87%, 97%, and 92% of revenues in fiscal 1999,
1998, and 1997 respectively, principally by the DOE.
The Company performs its services under contracts or agreements that usually
require performance over a period of one to five years. However congressional
budget limits could prolong the contracts. In general, the Company's contracts
or agreements may be terminated, in whole or in part, at the convenience of the
Government. Virtually all government contracts are funded annually based on
administrative recommendations and annual congressional appropriations.
Regardless of the terms of the Company's government contracts, the Company can
only receive up to the appropriated funds made available to the Company.
The Company has been working on the development of its Direct FuelCell(TM)
technology under contracts since 1977, with various government agencies in
addition to the DOE, including the Department of Defense, the Defense Advanced
Research Projects Agency ("DARPA"), and the National Aeronautics and Space
Administration ("NASA").
The Company currently receives its government funding primarily under a
long-term Cooperative Agreement with the DOE. The original agreement covered a
5-year project which commenced in the first fiscal quarter of 1995 and had an
estimated value of $78 million, excluding cost-share funding by the Company and
other private sector sources. The DOE Cooperative Agreement covers the design,
scale up, construction and testing of direct carbonate fuel cells operating on
natural gas. Major development emphasis under this agreement focuses on fuel
cell and total power plant cost reduction and improved endurance.
The present estimated value of the DOE Cooperative Agreement is $95 million,
excluding cost share funding. The term of this contract has been extended to
December 2000. The Company has requested additional funds from DOE and an
extension of the term of the contract in order to complete the development and
conduct planned field trials of its commercial fuel cell stack design products.
The Company and its partners have been providing significant cost-share funding
for the project covered by this contract. The Company is also seeking additional
funding from potential customers and other private sector organizations, which
may be necessary to complete the commercialization process as planned. The
Company expects its main contract with the DOE to be supported through 2003.
In addition to the activities listed above, the Company has been active in
soliciting other business from industry and government organizations. The
Company has been working on Direct FuelCell(TM) power plants for marine
applications under contracts with the U.S. Navy and U.S. Coast Guard. These
power plants are required to operate on liquid fuels such as diesel. Initial
feasibility of using diesel in Direct FuelCell(TM) has been demonstrated. Under
this contract, the Company has already produced clean fuel-cell compatible fuel
from marine diesel in a compact fuel processing system. In 1999, a subscale fuel
cell stack was tested on this clean fuel under conditions simulating marine
requirements. The Company also passed required shock and vibration tests, and
was selected (subject to final negotiation of a contract) by the Navy to
continue development work under Phase II, leading to a 500 kW land based
demonstration. In 1999, the Company formed a partnership with Bath Iron Works, a
General Dynamics Company to develop an advanced carbonate-based energy plant for
defense marine applications. In addition to satisfying marine applications, a
stationary market opportunity for islands, such as Bermuda, Hawaii etc., exists
which are primarily dependent on diesel fuel to generate electricity.
In late 1999, DOE transferred a long standing Clean Coal project to Global
Energy; a Cincinnati based independent power producer. The objective of the
project is to demonstrate an innovative gasification technology. The clean, low
cost fuel generated in this process will be used to fire gas turbines and to
demonstrate the operation
8
of a MW class fuel cell power plant. The Company is named in the contract as the
fuel cell developer. Sub-contract negotiations with Global are in progress.
In 1999, the Company received an award from the DOE to develop a high
temperature membrane to overcome some of the shortcomings of present generation
polymer electrolyte membrane fuel cells (PEM).
The Company also has received several Small Business Innovation Research grants
and research contracts from various organizations to explore advanced concepts
or new applications of fuel cells.
Partnerships, Joint Ventures and Licenses
The Company has entered into international licensing agreements with major
corporations. Generally, the Company has reserved for itself the exclusive
rights to manufacture and sell carbonate fuel cells in North America. The
licensees pay annual license fees to the Company and royalties on equipment
sales.
The Company has benefited from its licenses and has received valuable technical
and manufacturing information from its licensees. By coordinating its own
development program with the extensive effort of its partners, it has leveraged
its own efforts substantially.
DaimlerChrysler subsidiary MTU-Friedrichshafen GmbH ("MTU"). In 1989, the
Company entered into a license agreement (the "MTU Agreement") with DASA, a
German aerospace and aircraft equipment manufacturer and a subsidiary of Daimler
Benz Corporation, one of the largest industrial companies in Europe. That
agreement was transferred to a subsidiary of DASA, MTU Friedrichshafen, which
manufactures ship propulsion and power generation equipment in 1993. In 1994,
MTU became a subsidiary of AEG Daimler Benz Industries, now DaimlerChrysler.
In 1992, MTU, formed a European consortium (ARGE) including RWE AG, the largest
electric utility in Germany, Ruhrgas AG, the largest natural gas supplier in
Germany, Elkraft Power Co. Ltd. (Elkraft), a large Danish utility, and Haldor
Topsoe A/S, a Danish industrial company. The intent of the consortium is to
spend approximately 130 million Deutsche Marks ($68 million), over a nine year
period on further development, demonstration and commercialization of the
Company's carbonate fuel cell technology. Certain individual members of the
consortium, including MTU, Elkraft and Haldor Topsoe A/S, have conducted
carbonate fuel cell activities on their own utilizing the Company's technology.
The activities of this group complement the Company's efforts to design and
manufacture natural gas and coal gas fueled carbonate fuel cell systems based on
the Company's designs.
During 1998, MTU designed and built a 250 kW cogeneration fuel cell unit (the
"Hot Module"), which incorporates the Company's fuel cell assemblies, uses an
innovative integration of a portion of the balance-of-plant into the fuel cell
stack module itself, with the expectation of reducing costs to the power plant
as a whole. The design is very compact and especially suitable for cogeneration
applications. In July 1998, the Company entered into a Cross-Licensing and
Cross-Selling Agreement with MTU pursuant to which MTU and the Company have
granted to each other the right to manufacture and sell each other's stationary
power fuel cell products in their respective regions. The Company therefore has
the right to manufacture and sell fuel cell power plants based on MTU's Hot
Module design in North America, while, MTU has the right to sell fuel cell power
plants based on the Company's larger 1.5 MW base module in Europe. Each company
will pay royalties based upon sales.
The 1989 MTU Agreement was replaced in December of 1999 with a revised MTU
Agreement. Pursuant to the terms of the new MTU Agreement, the Company has
granted to MTU an exclusive license to use, develop and sell carbonate fuel
cells in Europe and the Middle East, and a non-exclusive license in South
America, and Africa, subject to certain rights of the Company and others. MTU
has agreed to conduct research, development, manufacturing and marketing
programs in the area of carbonate fuel cell technology and to make the results
available to the Company . In addition, MTU has agreed to pay to the Company a
royalty based on kilowatts of electrical generating capacity using carbonate
fuel cells made or sold by MTU or its permitted licensees, including a minimum
annual royalty commencing in 2000.
During 1999, the Company delivered a fuel cell stack to MTU for a field
demonstration of the Hot Module design at the municipal utility in Bielefeld,
Germany. In calendar 2000, the Company expects to demonstrate a Hot
9
Module unit, using a Company-manufactured fuel cell stack, in the United States
at a site to be determined. MTU buys its fuel cell assemblies from the Company
and has ordered fuel cell assemblies from the Company for three other power
plants to be delivered in 2000. The Company anticipates that MTU will continue
to purchase fuel cell assemblies from it for the foreseeable future.
Mitsubishi Electric Corporation ("MELCO"). In November 1981, the Company and
MELCO, a Japanese electronics and electric equipment manufacturer entered into a
license agreement relating to carbonate fuel cell technology. MELCO designed and
constructed a 200 kW power plant at a Japanese utility site incorporating Direct
FuelCell(TM) technology, which was operational in 1999. MELCO has notified the
Company that based upon Japanese Government direction it intends to reduce its
efforts to internal research and cancel the agreement by January 31, 2000. The
Company is in discussion with potential partners interested in commercializing
DFC(TM) technology in Asia.
Electric Power Research Institute ("EPRI"). In 1988, the Company entered into a
license agreement with EPRI, granting the Company the right to use carbonate
fuel cell proprietary data developed under certain EPRI contracts with the
Company. The Company has agreed to pay EPRI a one-time fee of approximately
$50,000 upon the Company's first commercial sale of a carbonate fuel cell stack
of one megawatt or larger in size, and a royalty of 0.5% to 1% upon commercial
sales of carbonate fuel cell stacks.
Santa Clara. In 1993, the Company obtained an exclusive license with rights to
sublicense through the year 2005 to use the balance of plant design for the
Santa Clara Plant. The license becomes non-exclusive after 2005 or earlier, at
the option of Santa Clara, if the Company does not meet certain
commercialization milestones. In addition, beginning three years after
commencement of production of fuel cells at a commercial scale manufacturing
plant, the Company is required to make royalty payments of up to $15 per
kilowatt subject to consumer price index and other adjustments on sales of fuel
cell power plant stacks of capacities of 100 kilowatts or more.
U.S. Department of Energy. In connection with certain contracts and grants from
DOE, the Company has agreed to pay DOE 10% of the annual license and royalty
income received from MTU, up to $500,000.
Fuel Cell Markets
The Company expects to grow its commercial markets in three phases. Initial
orders will come from premium priced applications, the second phase will involve
commercial and light industrial users in a more competitive, sustaining market
and finally, the achievement of manufacturing economies of scale and the
introduction of next generation products will allow the penetration of highly
competitive distributed generation markets.
The Company is targeting its initial commercialization efforts for niche
stationary power applications. This is because the Company will not yet have
gained the cost advantages of mass production. Therefore, the Company expects
initial adopters to include those in regions where air pollution requirements
are particularly strict, industrial and commercial users who can make use of the
high quality waste heat for cogeneration purposes, customers with opportunity
fuels such as landfill or digester gas, customers with a requirement for premium
power quality or 24X7 reliability, those seeking grid independence or those
trying to solve grid transmission shortages and especially those customers who
combine several of the above characteristics. The Company also expects to have
early purchases from utility and non-utility power producers who will purchase
fuel cells to improve their knowledge of the technology with the intention of
purchasing or leasing and servicing the equipment in the future. The Company is
in active discussions with various utilities, other power producers and
equipment suppliers regarding the purchase of its fuel cell products for
applications such as those described above.
End users such as hospitals, data processing centers, military bases, schools,
shopping centers and office buildings have already emerged as early adopters of
distributed generation mainly in the form of cogeneration, the combined
utilization of heat and electricity generated by the power plant. The high
operating temperature of the Company's Direct FuelCell(TM) provides an advantage
in these applications. The Company believes that its sustaining market will come
from commercial and light industrial customers following this initial trend. The
Company, using a consultant (ERI Services, of Hartford, Connecticut), has
identified cogeneration markets where credits for waste heat could be used to
reduce the cost of electricity produced. Markets in 11 states were characterized
as a function of selling price from $1,000 to $3,000/kW for units for
applications of between 1 and 5 MW. The study indicated
10
a potential market in these states of $15 billion at $1,500/kW and $7 billion at
$3,000/kW. Furthermore, in a study completed in February, 1999, EPRI identified
24,000 MW of potential business among commercial and light industrial customers
who could self-generate using the Company's products at a savings compared to
their current electric rates The Company expects to serve these customers
through energy service providers. These retail companies selling energy services
to end-users are expected to emerge as the result of deregulation of the
electric utility industry. As markets open and customer's expectations increase,
retail companies will offer a comprehensive slate of services. Distributed
generation technologies offer a flexible tool for this purpose and industry
experts expect that within 10 years energy retailers will purchase up to 60% of
all new distributed generation equipment.
Many utilities are interested in fuel cell power plant technology primarily as
an efficient, low pollution and cost-effective dispersed generator. Since the
Company's fuel cells can be located at, or in place of, distribution and
transformer stations, they may provide greater flexibility in the transmission
and distribution of electricity. The modular aspects of the Company's fuel cells
may also allow larger utilities to introduce phased capacity construction into
their generation system. In this approach, the utilities could expand
electricity generation capacity to keep pace with demand by adding blocks of
fuel cells on a periodic basis as required, thereby improving cash flow as
compared with building a single large plant.
The company is developing turbine hybrid power plants as its next generation
technology. The Company believes that due to the very high electric efficiencies
which can be achieved in these power plants (greater than 70%), and the
availability of configurations in excess of 20 MWs, they could provide an
attractive cost-effective means for large scale distributed power generation for
utilities.
Fuel Cell Competition
Several companies in the United States are involved in fuel cell development.
One of these companies, M-C Power Corporation is engaged in the development of
carbonate fuel cells but uses a different technical approach, which involves
complex auxiliary equipment to convert fuel to hydrogen. In Japan, at least six
manufacturers have demonstrated interest in developing and marketing carbonate
fuel cells. One of these, Mitsubishi Electric Company, is a licensee of the
Company (see Partnerships, Joint Ventures and Licenses). Some have larger
marketing and sales departments than the Company and a history of producing and
selling electric generation equipment. Two Japanese companies have demonstrated
extended operation of 100kW carbonate fuel cells and jointly tested a 1MW plant
in 1999. One of these companies is expected to concentrate on 700-800 kW modules
for dispersed power generation.
In Europe, companies in Germany, Holland, Spain and Italy are actively engaged
in carbonate fuel cell development and are potential competitors, although these
efforts are not as well advanced as the progress of the United States and
Japanese companies. The German activity through the Company's licensee MTU and
its partners is by far the largest effort. Almost all of these companies are
also significantly larger than the Company, possess greater financial resources
and have established product lines in electric generation equipment and in other
fields.
In addition to the carbonate fuel cell, other types of fuel cells are also being
developed by different companies worldwide. These fuel cells, generally referred
to by the electrolyte medium they use, include phosphoric acid, polymer
electrolyte and solid oxide systems. These fuel cells are in various stages of
development and aim at different applications including stationary power,
transportation and portable power. Only the phosphoric acid fuel cell system,
developed by United Technology's ONSI Corporation is in advanced stages of
development and has limited commercial sales. This system is significantly less
efficient and is expected to be more expensive compared to the Company's Direct
FuelCell(TM). More recently, Ballard Power Systems has announced plans to test
250 kW polymer electrolyte units for stationary applications. Plug Power
Corporation has also announced plans to test models of its 5-10 kW fuel cells
for residential applications. The Company believes that polymer electrolyte
membrane (PEM) based fuel cells are less efficient than the DFC(TM) and
therefore have higher fuel costs. The Company believes that the PEM developers
are primarily focused on transportation fuel cells and small residential units.
The Company believes that these will not directly compete with the Company's
targeted stationary power markets in the 250kW size and larger.
11
The Company must also compete with companies manufacturing more established
combustion equipment, including various engines and turbines, which are
currently in use and have established operating and cost features. The greatest
competition comes from the gas turbine industry which recently has made good
progress in improving fuel efficiency and reducing pollution in large size
combined cycle natural gas fueled generators. Efforts are underway to extend
these advantages to small size machines. The Company believes that in the small
size units, under 5 MW, gas turbines will not be able to match its fuel cell
efficiency or environmental characteristics.
Nuclear power is expected to experience a decline in its share of the
electricity market. Social and political hurdles make it virtually impossible to
site new nuclear power plants in the U.S. at this time. Further, some of the
nuclear plants operating today will not be economical in a competitive market
due to high operating and maintenance costs. There are currently 110 nuclear
units licensed, providing about 20% of electricity in the United States. DOE
projects that, by 2020, 45 nuclear units will remain in service supplying about
8% of electricity in the United States.
While hydroelectric power is not forecast to shrink as dramatically as nuclear
power as a share of the market, it faces limited growth. The best domestic hydro
opportunities have been exploited, and there is growing pressure from
conservationists to remove some existing dams due to environmental concerns. The
DOE's forecast projects slightly under 3% growth in hydroelectric capability by
2020.
The Company is competing primarily on the basis of fuel efficiency,
environmental considerations and cost. The Company believes that the carbonate
fuel cell enjoys competitive advantages over other fuel cells including higher
efficiency, ease of operation, environmental quality and expected low cost. The
Company believes it is more advanced in the development of carbonate fuel cells
than other manufacturers.
Fuel Cell Manufacturing
The Company manufactures fuel cells at its facility located in Torrington, CT.
At present, the capacity of the plant is approximately 5 MW per year on a single
shift basis. The Company is planning to increase the capacity of this plant by
purchasing equipment to replace certain elements of the manufacturing process
which currently restrict the overall output of the facility. The Company expects
to raise funds for this purpose. The first stage in this process is to raise the
output capability to 50 MW per year. The Company estimates that the cost of this
expansion will be approximately $16 million. Meanwhile, the Company is using
existing funds to expand production capacity incrementally and to implement cost
reduction and process improvement projects.
The Company believes that virtually all of the raw materials used in its
products are readily available from a variety of vendors in the United States
and Canada. However, certain manufacturing processes which are necessary to
transform the raw materials into component parts for fuel cells are presently
available only through a small number of foreign manufacturers. The Company
believes that these manufactured products eventually will be obtainable from the
United States suppliers as demand for these items increases.
Other Agreements
Research and Development
A significant portion of the Company's research and development has been funded
by government contracts and therefore, a substantial amount of the Company's
total research and development expense has been included in "cost of revenues"
and not in its "research and development expense" in the Consolidated Financial
Statements. In addition, the Company has incurred discretionary research and
development expense under its government contracts for fuel cell and battery
development which has been included in "research and development expense"
although it, too, has been reimbursed fully under the government contracts.
During fiscal 1999, 1998 and 1997, 100% of the Company's research and
development was funded by customers, including approximately $1.81 million,
$2.26 million and $1.27 million, respectively, of discretionary independent
research and development expense.
During 1998 the Company also formed a joint venture with the City of Xiamen,
China called Xiamen-ERC Technology Company, Limited. This Joint Venture has been
formed to fund other entities, such as Xiamen University, to conduct research in
advanced electrochemical technologies, which will benefit the Company and
12
Xiamen. The Company has invested $400,000 of capital into this joint venture,
which is currently two-thirds owned by the Company. In 2000, the Company intends
to transfer one third ownership in the joint venture to Evercel, Inc.
Proprietary Rights
The Company relies primarily on a combination of copyright and trademark laws,
trade secrets, patents, confidentiality procedures (including, in some
instances, the encryption of certain technical information) and contractual
provisions to protect its proprietary rights. The Company has obtained patents
and will continue to make efforts to obtain patents, when available, in
connection with its technologies. The Company can give no assurance that any
patent obtained will provide protection or be of commercial benefit to the
Company, or that its validity will not be challenged. The Company also seeks to
protect its software, documentation and other written materials under trade
secret and copyright laws, which may afford only limited protection. The Company
presently has 53 United States patents including 1 obtained in 1999, and 7
pending United States patent applications, including 4 filed in 1999, as well as
105 patents in certain foreign jurisdictions,, and 15 pending patent
applications, including 1 filed in 1999, in certain other jurisdictions,
principally in Europe, South America, and Japan. Despite the Company's efforts
to protect its proprietary rights, unauthorized parties may attempt to copy
aspects of the Company's technology or to obtain and use information that the
Company regards as proprietary. The laws of some foreign countries do not
protect the Company's proprietary rights to as great an extent as do the laws of
the United States and, because of the Company's significant international
presence, the Company can give no assurance that the Company will be able to
protect its proprietary rights in the jurisdictions in which it conducts
business or into which it licenses its technology or in which products
incorporating its technology are manufactured and sold.
Many of the Company's United States patents were the result of government-funded
research programs. The Government does not impose significant restrictions on
the Company's use of government-sponsored patents, except that military and
national security applications of technology remain the property of the United
States Government. Patents of the Company that were the result of
government-funded research prior to January 1988 (the date the Company qualified
as a small business under applicable government regulations) belong to the
Government unless the Government waives its rights to these patents. In most
cases, what the Company has obtained is owned by the United States Government.
The Company has received a license to use these patents, which is revocable only
in the limited circumstances where it has been demonstrated that the Company is
not making an effort to commercialize the invention. Patents resulting from
government-funded research after January 1988 automatically belong to the
Company because of its small business status. In both instances, however, the
Government retains a royalty free right to use the patents for government
purposes. In addition, the Government may take title to the patents and may
license the patented technology to others if the Government believes that the
Company is not utilizing the patents. A number of the Company's patents are
subject to such rights. The Company believes, however, that the likelihood of
the Government exercising these rights is very small and would only occur if the
Company ceased its commercialization efforts.
Government Regulation
The Company presently is, and its fuel cell power plants will be, subject to
various federal, state and local laws and regulations relating to, among other
things, land use, safe working conditions, handling and disposal of hazardous
and potentially hazardous substances and emissions of pollutants into the
atmosphere. To date, the Company believes that it has obtained all necessary
government permits and has been in substantial compliance with all of these
applicable laws and regulations.
Pursuant to the National Environmental Protection Act (NEPA), since 1991, each
local Department of Energy procurement office must file and have approved by the
Department of Energy in Washington, DC, appropriate documentation for
environmental, safety and health impacts with respect to procurement contracts
entered into by that local office. The costs associated with compliance with
environmental regulations are generally recoverable under the Company's cost
reimbursable contracts. In certain cases, contract work may be delayed until the
approval is received.
13
Employees
As of December 31, 1999, the Company had 114 full-time employees, of which
approximately 30 were engineers, scientists, and other degreed professionals and
84 were professional, technical, administrative and manufacturing support
personnel. The Company considers relations with its employees to be good. The
loss of key employees could cause delays in completing contracted work and
development and commercialization activities.
Executive Officers of the Registrant
The executive officers of the Company and their ages are as follows:
NAME AGE POSITION WITH THE COMPANY
---- --- -------------------------
Jerry D. Leitman 57 President and Chief Executive Officer
Dr. Hansraj C. Maru 55 Executive Vice President and Director
Christopher R. Bentley 57 Executive Vice President and Director
Joseph G. Mahler 47 Vice President, Chief Financial Officer,
Treasurer & Corporate Secretary
Jerry D. Leitman has been President, Chief Executive Officer and a Director of
the Company since August 1997. Mr. Leitman was previously President of ABB Asea
Brown Boveri's global air pollution control businesses from 1992 to 1995. Prior
to joining ABB Mr. Leitman was Group Executive Vice President of FLAKT AB, a
Swedish multinational, responsible for FLAKT`s worldwide industrial businesses
from 1989 to 1992. Mr. Leitman is also a Director and a member of the Audit
Committee of Esterline Technologies Inc. Mr. Leitman obtained both a BS and MS
in Mechanical Engineering from Georgia Institute of Technology in 1965 and 1967,
respectively.
Dr. Hansraj C. Maru has been Executive Vice President and a director of the
Company since December 1992. Dr. Maru was Chief Operating Officer of the Company
from December 1992 to December 1997. Prior to that he was Senior Vice
President-Research and Development of the Company. Dr. Maru joined the Company
in 1977. Prior to joining the Company, Dr. Maru was involved in fuel cell
development at the Institute of Gas Technology. Dr. Maru received a Ph.D. in
Chemical Engineering from the Illinois Institute of Technology in 1975.
Christopher R. Bentley has been a director of the Company since June 1993 and
Executive Vice President of the Company since September 1990. Mr. Bentley was
President of Fuel Cell Manufacturing Corporation, a subsidiary of the Company,
from September 1990 to December 1997. From 1985 through 1989 he was Director of
Manufacturing (1985), Vice President and General Manager (1985-1988) and
President (1988-1989) of the Turbine Airfoils Division of Chromalloy Gas Turbine
Corporation, a major manufacturer of gas turbine hardware. Mr. Bentley received
a BSME from Tufts University in 1966.
Joseph G. Mahler joined the Company in October 1998 as Vice President, Chief
Financial Officer, Corporate Secretary and Treasurer. Prior to joining the
Company, Mr. Mahler was Vice President-Chief Financial Officer at Earthgro, Inc.
from 1993 to 1998 and prior to that, he was a partner at Ernst & Young. Mr.
Mahler received a B.S. in Accounting from Boston College in 1974.
Risk Factors
The risk that the Company's products are not cost competitive
The Company recognizes that achieving a significant share of the power
generation equipment market will require that the Company offer its products at
very competitive prices, which can only be accomplished when production costs
are cut substantially from current levels. There is no guarantee that the
Company will be able to achieve the required volume production levels to make
its products cost-effective. The failure of the Company to achieve a lower cost
structure through volume economies of scale and/or other expected changes and
improvements in the manufacturing process would have a material effect on the
business. In addition, the Company has no control over
14
the commodity prices of several types of competitive energy sources such as oil,
gas or coal. Significant decreases in the price of these inputs could also have
a material adverse effect on the business.
The Distributed Generation market may not develop as anticipated
Although many distributed generation products have been under development for a
number of years, commercial prospects for these products are at an early stage
of development and rapidly evolving. If the market fails to develop or develops
more slowly than the Company expects, the Company may not be profitable in the
future. As is typical in a rapidly evolving industry, demand and market
acceptance for recently introduced products and services are subject to a high
level of uncertainty and risk. Since the market is new and evolving, it is
difficult to predict with certainty the size of this market and its growth rate.
A market for carbonated fuel cells may not develop and demand for the Company's
services may not emerge or be sustainable. If the market fails to develop or
develops more slowly than expected, the Company's business would be materially
adversely affected.
The Company is affected by governmental regulation and legal uncertainty
The retail electricity industry is undergoing the process of deregulation
throughout the US. Although FuelCell Energy is not currently subject to direct
regulation by any domestic or foreign governmental agency, it is possible that
industry specific laws and regulations will be adopted covering issues such as
environmental standards, transmission scheduling, distribution and
characteristics and quality of the Company's products and services. Such
regulation could limit the growth in the use of carbonated fuel cells and
decrease the acceptance of fuel cells as a commercial product. Moreover, the
applicability of existing laws in various jurisdictions governing issues such as
stranded cost recovery and product liability may take years to resolve. Any such
new legislation or regulation, the application of laws and regulations from
jurisdictions whose laws do not currently apply to the Company's business, or
the application of existing laws and regulations to the energy industry could
have a material adverse effect on the Company's business.
The Company is subject to possible capital constraints
FuelCell Energy believes that cash reserves and cash flows from operations will
be adequate to fund operations at least for the next twelve months. However,
there can be no assurance that such sources will be adequate or that additional
funds will not be required either during or after such period. Future capital
requirements are dependent upon many factors, including, but not limited to, the
rate at which the Company expands production volume capabilities, the amount
used to fund demonstration projects, the level of government funding provided to
the Company and the Company's investment in new technology. The Company expects
to need additional funding to expand its manufacturing capability to the level
where volume efficiencies can be achieved. Additional financing may not be
available and, if available, it may not be available on terms favorable to the
Company or its stockholders. If additional funds are raised through the issuance
of equity securities, the percentage ownership of the Company's then current
stockholders will be reduced. If adequate funds are not available to satisfy
either short or long-term capital requirements, the Company may be required to
limit operations significantly.
Intellectual property rights offer only limited protection
The Company's proprietary technology is protected by trademark laws, patents,
trade secrets, confidential procedures and contractual provisions. The steps the
Company has taken to protect its intellectual property may not prevent
misappropriation of this technology and intellectual property agreements entered
into by the Company may not be enforceable. It might be possible for a third
party to copy or otherwise obtain and use the Company's technology or other
proprietary information without authorization, or to develop similar technology
independently. Policing unauthorized use of the Company's technology is
difficult due in large part to the global nature of the power generation market.
The laws of other countries may not adequately protect the Company's
intellectual property.
15
The Company is dependent on key personnel
The Company's performance is substantially dependent on the continued services
and on the performance of its executive officers and other key personnel,
particularly Jerry Leitman, the President and Chief Executive Officer. The loss
of the services of any executive officer or other key personnel could materially
adversely affect the Company's business. Although some executive officers and
key personnel have entered into employment agreements, these agreements do not
prevent them from leaving the Company. Also, the Company does not maintain "key
person" life insurance policies.
The power generation industry is competitive
The power generation industry is highly competitive. Failure to compete
successfully would have a material adverse effect on the Company's business,
results of operations and financial condition. The Company competes not only
with other fuel cell manufacturers, but also with makers of alternative energy
sources such as wind, solar power and hydropower as well as power producers
using more established sources such as oil, gas and coal. Some of the Company's
current and potential competitors have significantly greater financial,
marketing, technical and other competitive resources than the Company. These
resources may enable competitors to adapt more quickly to new technologies, or
to devote greater resources to the development, promotion and sale of their
products. In addition, other companies could develop new products and services
that could directly compete with FuelCell Energy. If the market becomes
saturated with competitors, the Company's business would be materially adversely
affected.
The Company is reliant on Government contracts and a few other customers
Historically, the Company's major source of revenue has come from government
contracts, as well as from licensees of the Company's technology. The Company
has no control over these parties and cannot guarantee the ability to maintain
satisfactory relationships with any of them on acceptable commercial terms. In
addition, the Company's government funding is subject to changes in government
agency procurement policies, reductions in expenditures for the services
provided by the Company, government agency budget shortfalls, annual
congressional appropriations and other risks generally associated with
government contracts. The Company cannot guarantee that these contracts will
continue to be an integral source of revenue in the future. Failure to retain
this customer base or receive government funds would have a material adverse
effect on the Company's business. In addition, to achieve projected revenue
levels, it will be necessary to expand the current customer base. There can be
no assurance that the Company will find additional customers or markets for its
products. Failure to expand the customer base would also have a material adverse
effect on the Company's business.
The Company concentrates on one product; and market acceptance is uncertain
Since beginning its operations, the Company has derived all of its revenue from
R & D contracts as well as from licensees of its electrochemical technologies.
The Company expects that its carbonate fuel cell products will continue to
account for all of its revenue in the foreseeable future. As a result, the
Company's future results of operations are dependent upon continued market
acceptance as well as enhancements to the fuel cell products.
The Company cannot guarantee that potential customers will accept fuel cells as
a replacement for traditional power sources. Market acceptance of fuel cells
will depend upon continued growth in distributed generation technology. Fuel
cells may not prove to be a viable medium for power generation due to the
inadequate development of the necessary infrastructure or to delays in the
development or adoption of new standards and protocols. The acceptance of fuel
cells will require a broad acceptance of new methods of power generation.
Failure of fuel cell products to gain market acceptance would have a material
adverse effect on the Company's business.
The Company has limited experience in marketing its products
The Company has traditionally sold its products to government entities and a
select few large industrial entities. Neither customer base has required the use
of an extensive sales or marketing force. Going forward, the Company's ability
to compete effectively will have to rely on greater use of the sales and
marketing functions in order to deliver the Company's products to a wider
customer base. Future results will depend on the ability of the Company's
executive team to attract and maintain the sales and marketing force. The
Company cannot guarantee
16
that it will be able to increase the size of its sales and marketing team on a
timely basis to provide a higher level of support required by a wider customer
base. Failure to add qualified sales and marketing representatives would have a
material adverse effect on the Company's business.
The risk that the Company's management is unable to manage growth effectively
The Company expects that the availability of additional capital will permit it
to expand its manufacturing capabilities, accelerate the commercialization of
its product and to enter a period of rapid growth which will place a significant
strain on the Company's financial and other resources. The proposed expansion
will expose the Company to increased competition, greater overhead, marketing
and support costs and other risks associated with the commercialization of a new
product. The Company's ability to manage its growth effectively will require it
to continue to improve its operations, its financial and management information
systems and to train, motivate and manage its employees. If the Company's
management is unable to manage growth effectively, the Company's results of
operations could be adversely affected.
The risk that commercialization is delayed
The Company believes that its fuel cell commercialization program is dependent
upon the Company conducting one or more additional commercial field trials of
its power plants. The failure of the Company to site these power plants and
complete these commercial field trials as it currently plans could delay the
timetable in which the Company believes it can begin to commercially sell its
product. The failure of these commercial field trials to perform as well as the
Company anticipates could also have a material adverse effect on the Company's
commercialization plans. Any such delay or performance failure would have a
material adverse effect on the Company's business.
The Company faces the risk of product obsolescence and technology concerns
Future results will depend on the ability of the Company's products to maintain
a technological edge with regards to being an efficient and environmentally
friendly means of power generation. Given the intense competition within the
industry and the ability of some of the Company's competitors to maintain
cutting-edge research and development capabilities, it is possible that the
competition could develop a product that proves to be more efficient as a means
of power generation. The risk of product obsolescence would have a material
adverse effect upon the Company's business.
The Company has lengthy sales cycles
Given the Company's dependence on government contracts and the necessity of
providing government entities with substantial amounts of information, the sales
process has historically been long and time-consuming. Additional time is also
needed to build demonstration models to gauge the effectiveness of the product
at different stages of development. The time from initial contact to delivery of
product can take several months and in some cases, several years. The Company
will need to shorten the time from initial contact to final product delivery if
it hopes to expand production, reach a wider customer and forecast revenue with
any degree of certainty. As new competitors and products enter the industry,
failure to shorten the sales cycle could have a material adverse effect on the
Company's business.
The Company has a large and influential shareholder
MTU currently has an 11% percent equity stake in the Company and is also a
licensee of its technology. Therefore, it would be in MTU's interest to possess
substantial influence over matters concerning the Company's overall strategy and
technological development. Such influence could make it difficult for a third
party to acquire stock or have input into the decisions made by the Board of
Directors. In addition, MTU's equity stake could put itself into a conflict of
interest if MTU is experimenting with competing technologies for its other
products.
17
Item 2. PROPERTIES
The Company currently owns and occupies approximately 72,000 square feet in two
interconnected single story buildings on 10.8 acres, of which approximately 5.4
acres are currently used, in Danbury, Connecticut. For specific information with
respect to the mortgage on the Danbury, CT facility, see Note 6 to Consolidated
Financial Statements. Additionally, the Company has leased a 63,000 square foot
facility in Torrington, Connecticut for its manufacturing operations. The lease
expires February 1, 2001, however the Company is currently negotiating to lease
a new facility. The annual lease cost of the Torrington facility is
approximately $325,000.
Item 3. LEGAL PROCEEDINGS
The Company is not a party to any significant legal proceeding.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The following matters were submitted to a vote of securities holders during the
fourth quarter of the fiscal year covered in this report.
The following three items below were voted on at a special meeting of
shareholders held on September 2, 1999. The result of the voting was as follows:
1. To approve an amendment to the Company's Restated Certificate of
Incorporation, as amended, to change the name of the Company to
FuelCell Energy, Inc.
VOTES FOR VOTES AGAINST ABSTAIN
--------- ------------- -------
3,913,929 8,070 3,077
2. To approve an amendment to the Company's Restated Certificate of
Incorporation, as amended, to increase the number of authorized shares
of Common Stock of the Company from 8,000,000 to 20,000,000.
VOTES FOR VOTES AGAINST ABSTAIN
--------- ------------- -------
3,578,501 338,525 8,050
3. To approve the reincorporation of the Company in the State of Delaware
(the "Reincorporation"), to be effected pursuant to an Agreement and
Plan of Merger, by and between the Company and FuelCell Energy, Inc.,
a Delaware corporation and a wholly-owned subsidiary of the Company
(the "Delaware Company") pursuant to which the Company will merge with
and into the Delaware Company and the Delaware Company will survive
the Merger.
VOTES FOR VOTES AGAINST ABSTAIN NON-VOTES
--------- ------------- ------- ---------
3,010,456 99,224 5,077 810,319
18
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock (Common Stock), par value $.0001, has been publicly
traded since June 25, 1992. From September 21, 1994 through February 25, 1997
the Common Stock traded on the Nasdaq National Market ("NASDAQ") and since
February 26, 1997 the Common Stock has traded on the American Stock Exchange
("AMEX") under the symbol "FCL". On January 24, 2000 there were approximately
251 common stockholders of record.
The following table sets forth the range of high and low prices of the Common
Stock on the AMEX for the fiscal quarters indicated, as reported by AMEX.
Year Ended 10/31/99 High Low
- ------------------- ---- ---
First Quarter $10.250 7.750
Second Quarter 9.667 5.375
Third Quarter 12.917 7.000
Fourth Quarter 21.167 10.750
Year Ended 10/31/98 High Low
- ------------------- ---- ---
First Quarter 12.000 8.500
Second Quarter 19.333 9.917
Third Quarter 16.333 11.500
Fourth Quarter 12.167 6.333
The Company has never paid a cash dividend on its Common Stock and does not
anticipate paying any cash dividends in the foreseeable future. The Company
currently anticipates retaining all of its earnings to finance future growth.
Under the terms of the Company's Loan Agreement with First Union National Bank,
the Company may not, without the written consent of First Union National Bank,
declare or pay any dividend.
19
Item 6. SELECTED FINANCIAL DATA
The following selected consolidated financial data presented below as of the end
of each of the years in the five-year period ended October 31, 1999 have been
derived from the audited consolidated financial statements of the Company
together with the notes thereto included elsewhere in this Report (the
"Consolidated Financial Statements"). The data set forth below is qualified by
reference to, and should be read in conjunction with, the Consolidated Financial
Statements and "Management's Discussion and Analysis of Financial Condition and
Results of Operations" included elsewhere in this Report.
1999 1998 1997 1996 1995
----------- ----------- ----------- ----------- -----------
Net Sales $19,965 $24,318 $24,830 $29,446 $33,955
Gross Profit 7,543 9,728 9,188 8,551 7,696
Operating Expenses:
Administrative & Selling 6,615 6.986 6,081 4,858 4,513
Depreciation 1,362 1,529 1,768 1,919 1,801
Research & Development 1,813 2,258 1,270 1,260 944
----------- ----------- ----------- ----------- -----------
Operating income (loss) (2,247) (1,045) 69 514 438
Interest & other income,
Net 195 267 307 442 317
Interest expense (169) (269) (354) (503) (459)
License fee income net 1,527 678 650 357 357
----------- ----------- ----------- ----------- -----------
Income (loss) before income taxes (694) (369) 672 810 653
Income tax expense 291 13 247 301 211
----------- ----------- ----------- ----------- -----------
Net income (loss) ($985) ($382) $425 $509 $442
=========== =========== =========== =========== ===========
Basic earnings (loss) per share ($0.16) ($0.06) $0.07 $0.09 $0.08
Basic shares outstanding 6,226,714 6,121,527 5,931,760 5,694,480 5,571,735
Diluted earnings (loss) per share ($0.16) ($0.06) $0.07 $0.08 $0.07
Diluted shares outstanding 6,226,714 6,121,527 6,287,745 6,094,592 5,958,422
Working capital $7,204 $10,234 $6,366 $8,087 $8,216
Total assets 19,831 26,843 21,433 23,540 23,847
Long-term debt 1,625 1,944 2,699 4,363 6,487
Total shareholders' equity 14,815 15,870 14,769 14,062 12,238
20
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company obtains its revenues primarily from government and industry funded
research and development contracts and license fees. These contracts are
generally multi-year, cost reimbursement type contracts. The majority of these
are United States Government contracts which are dependent upon the government's
continued allocation of funds.
Under a cost-reimbursement contract, the Company is reimbursed for reasonable
and allocable costs of the materials, subcontracts, direct labor, overhead,
general and administrative expenses, independent research and development costs,
and bid and proposal preparation costs, provided the total of such costs do not
exceed the reimbursement limits set by the contract. In addition, some of these
contracts bear a fixed fee or profit. The profitability of these contracts to
the Company depends upon charging direct costs to contracts, maintaining
adequate control of overhead costs and general and administrative expenses so
they do not exceed the approved billing rates, and limiting the aggregate
reimbursable costs to the allowable amounts set by the contract.
In addition to cost reimbursement contracts, the Company enters into firm
fixed-price contracts and cost-sharing type contracts. In performance of a firm
fixed price contract, the Company is paid the price that is set in advance
without regard to the costs actually incurred in performance, subject to certain
excess profit limitations. In a cost sharing type contract, the Company agrees
in advance to contribute or cause to be contributed an agreed upon amount of
funds, third party services or in-kind services toward fulfilling the objective
of the contract. Except for the Company's cost contributions, the contract
operates in substantially the same manner as a cost reimbursement type contract.
At present, most of the Company's contracts are cost shared and no fee or profit
is allowed. The government contracts and agreements provide for a cost-of-money
recovery based upon capital investment in facilities employed in contract
performance.
Since 1983, when the Company began to shift its emphasis from fuel cells for
military use to commercial applications, the Company's primary focus has been
researching and developing carbonate fuel cells. The funding received for this
research has represented a substantial portion of the Company's revenues.
The Company will continue to seek research and development contracts for all its
product lines. To obtain contracts, the Company must continue to prove the
benefits of its technologies and be successful in its competitive bidding.
Failure to obtain these contracts could have an adverse effect upon the Company.
Because the Company receives a significant portion of its revenues from
contracts with the Department of Energy and other government agencies, future
revenues and income of the Company could be materially affected by changes in
government agency procurement policies, a reduction in expenditures for the
services provided by the Company, and other risks generally associated with
government contracts. In general, the Company's government contracts may be
terminated, in whole or in part, at the convenience of the government. A
reduction or delay in the Company's government funding could have a material
adverse effect on the Company's ability to commercialize its fuel cell
technology.
The Company has been notified by DOE that its 2000 funding on the cooperative
agreement will be approximately the same level as 1999's funding. The Company is
in discussions with the DOE to extend and fund the cooperative agreement through
2003.
Evercel Spin-off
On February 22, 1999, the Company effected a spin-off to its stockholders of
100% of the shares of Evercel, Inc. ("Evercel"), a wholly-owned subsidiary of
the Company. In connection with this transaction, the Company transferred to
Evercel net assets of $669,000 representing the principal assets and liabilities
related to the Company's Battery Group that was engaged in the development and
commercialization of a patented, nickel-zinc rechargeable battery. Following the
transfer, the Company distributed to its stockholders in a tax-free distribution
one share of Evercel Common Stock for every three shares of common stock of the
Company.
21
RESULTS OF OPERATIONS
1999 compared to 1998. Revenues decreased 18% to $19,965,000 in the 1999 period
from $24,318,000 in the 1998 period. The decrease in revenue was due to the
reduction in revenues from the Cooperative Agreement with the U. S. Department
of Energy. This was partially offset by an increase in revenues from commercial
customers and the U.S. Navy for the development of the Direct FuelCell(TM)for
land use and ship service applications.
Cost of revenues decreased 15% to $12,422,000 in the 1999 period from
$14,590,000 in the 1998 period due to decreased revenues and partially offset by
increased spending in the development of fuel cell component manufacturing
processes.
Administrative and selling expenses decreased 5% to $6,615,000 in the 1999
period from $6,986,000 in the 1998 period. The decrease in the 1999 period
reflects the impact of the spin-off of Evercel, in February 1999 partially
offset by increased costs relating to the commercialization of the Company's
Direct Fuel Cell(TM) technology. Depreciation expense decreased 11% to
$1,362,000 in the 1999 period from $1,529,000 in the 1998 period. The decrease
was the result of the completion of the depreciation of machinery and equipment
originally installed in the Company's Torrington CT facility and the transfer of
fixed assets to Evercel, Inc. Research and development expenses decreased 20% to
$1,813,000 in the 1999 period compared to $2,258,000 in the 1998 period. The
decrease was the result of the transfer of the research and development efforts
for nickel zinc batteries to Evercel.
License fee income, net increased 125% to $1,527,000 in the 1999 period from
$678,000 in the 1998 period. In 1999 the Company recognized previously deferred
license fee income of $1,300,000 resulting from the successful testing of
Evercel's nickel zinc battery technology.
Interest expense decreased 37% to $169,000 in the 1999 period from $269,000 in
the 1998 period. The decrease resulted from lower interest rates and the
reduction of notes payable to primary lenders.
Interest and other income, net decreased 27% to $195,000 in the 1999 period from
$267,000 in the 1998 period. In the 1999 period, the Company recognized as other
expense $84,000 of one time costs, associated with its investment in the joint
venture with Xiamen Three Circles Co. Ltd. These costs offset increased interest
income on higher interest rates earned on invested funds.
The effective tax rate increased to 41.9% in the 1999 period from 3.6% in the
1998 period. The increase was due primarily to an increase in the valuation
allowance relating to foreign tax credit carryovers and state net operating loss
carryforwards. The valuation allowance was increased due to a limited
carryforward period and the probability that the carryforwards will not be
realized.
1998 compared to 1997. Revenues decreased 2% to $24,318,000 in the 1998 period
from $24,830,000 in the 1997 period. The decrease in revenues was primarily due
to the final completion of all activities related to the Direct FuelCell(TM)
power plant project in Santa Clara, California. The decline was partially offset
by an increase in billings, as compared to fiscal year 1997, on the DOE
Cooperative Agreement and the contract with the U.S. Navy for the development of
ship service fuel cells.
Cost of revenues decreased 7% to $14,590,000 in the 1998 period from $15,642,000
in the 1997 period due to decreased revenues and partially offset by increased
spending levels on research and development.
Administrative and selling expenses increased 15% to $6,986,000 in the 1998
period from $6,081,000 in the 1997 period. The 1998 period reflects an increase
in costs related primarily to the acceleration of the commercialization of the
Ni-Zi battery technology. These included salary and fringe benefits and legal
and professional costs related to the creation of joint venture and licensing
agreements with the Company's Chinese partners, the unconsummated acquisition of
a battery manufacturing company, and the spin-off of the Battery Group. These
costs amounted to $400,000, $280,000, and $240,000, respectively. Depreciation
expense decreased 14% to $1,529,000 in the 1998 period from $1,768,000 in the
1997 period. The decrease was substantially due to completion of the
depreciation period for assets capitalized in 1992 related to the manufacturing
facility in Torrington, which ended February 1, 1998. Research and Development
expenses increased 78% to $2,258,000 in the 1998 period from $1,270,000 in the
1997 period. This was a result of increased costs as compared to fiscal
22
1997 relating to the commercialization of the battery technology amounting to
$886,000 and to the development of fuel cell technology of $102,000.
License fee income, net, increased 4% to $678,000 in the 1998 period from
$650,000 in the 1997 period. Decreased income resulting from the termination of
the Company's battery license with Corning in May 1998 was more than offset by
increased license fee income from the Nan Ya license.
Interest expense decreased 24% to $269,000 in the 1998 period from $354,000 in
the 1997 period due to a decrease in the prime rate and the reduction of notes
payable to MTU.
Interest and other income, net, decreased 13% to $267,000 in the 1998 period
from $307,000 in the period. The decrease resulted from lower interest rates on
invested funds.
The effective tax rate decreased to 3.6% in the 1998 period from 36.7% in the
1997 period. The primary reason for the difference in the rate is attributable
to an expected tax benefit offset by non-deductible expenses for tax purposes
relating to the spin off of the Battery Group.
Liquidity and Capital Resources
The Company has funded its operations primarily through cash generated from
operations including government contracts and cooperative agreements,
borrowings, and sales of equity. In 1998, the Company also received License Fee
Income of $1,500,000 from the Xiamen-Three Circles Co. (formerly Xiamen
Daily-Used Chemicals Co.) and Nan Ya Plastics Corp. license agreement and
$3,000,000 from the Xiamen-Three Circles Co. (formerly Xiamen Daily-Used
Chemicals Co.) Agreement. The $3,000,000 was subsequently invested in the Joint
Venture to obtain a 50.5% ownership therein, which ownership interest will be
transferred to Evercel when consent to the transfer is received from the Chinese
partner and the appropriate Chinese governmental authority.
At October 31, 1999, the Company had working capital of $7,204,000 including
$6,163,000 of cash and cash equivalents, compared to working capital of
$10,234,000 including $10,304,000 of cash and cash equivalents at October 31,
1998. Cash and cash equivalents were reduced by $4,141,000 of which $3,020,000
represented cash in the joint venture which was deconsolidated as of February
22, 1999 as part of the spin-off of Evercel. The Company acquired $1,244,000 in
fixed assets of which $603,000 was reimbursed by Evercel, retired $733,000 in
debt and made other payments totaling $322,000. Cash of $62,000 provided from
operations and $466,000 from the sale of common stock partially offset the use
of cash.
The Company's capital expenditures are incurred primarily to support ongoing
contracts and to replace existing equipment. A portion of these expenditures was
financed from the recovery of depreciation expense under cost-reimbursement
contracts and cooperative agreements.
During the 1995 period, the Company entered into a $2,500,000 credit facility
with MetLife Capital Corporation, an affiliate of Metropolitan Life Insurance
Company. The credit facility bears interest at the 30-day commercial paper rate
plus 2.5 percent. The Company used the credit facility during 1995 and 1996 to
acquire machinery and equipment for the Company's manufacturing facility in
Torrington, Connecticut. Repayment of the credit facility commenced during the
1996 period and is scheduled to end in February 2000.
During the 1996 period, the Company entered lending arrangements with First
Union National Bank , which provide for (i) a $2,250,000 five-year term loan
facility, which bears interest at a floating rate equal to 1.75 percent above
London Interbank Offered Rates (LIBOR), and (ii) a $600,000 term loan facility
which bears interest at a floating rate equal to 1.75 percent above LIBOR. The
term loan facility was fully repaid in 1998.
In fiscal year 1990, the Company borrowed $1,980,000 from MTU at a rate of 6%
per annum. The pledge of FCE stock and certain machinery, equipment and
leasehold improvements at the Torrington, CT, facility, secured this loan.
During fiscal 1996, $877,000 of this loan was converted into 97,397 shares of
common stock of the Company. MTU extended the maturity of $630,000 of the loan
to November 30, 1997 with the right to convert to common stock at $9 per share.
During December 1997 the Company paid the entire balance of principal and
interest due in the amount of $673,000.
23
In December 1994, the Company entered into a Cooperative Agreement with the DOE
pursuant to which the DOE agreed to provide funding to the Company over the next
five years to support the continued development and improvement of the Company's
commercial product. The current aggregate dollar amount of that contract is
$144,000,000 with the DOE providing $95,000,000 in funding. The balance of the
funding is expected to be provided by the Company, the Company's partners or
licensees, other private agencies and utilities. Approximately 90% of the
non-DOE portion has been committed or credited to the project in the form of
in-kind or direct cost share from non-U.S. government sources. Failure of the
Company to obtain the required final 10% of the funding from non-U.S. government
sources on a timely basis, could result in delay or reduction of DOE funding.
The Company will need to raise additional funds to expand its Direct
FuelCell(TM) manufacturing capability. The first stage in this process is to
raise the output capability of the Company's manufacturing facility to 50 MW per
year. Approximately $16 million has been estimated for this step. The Company
cannot assure that this funding will be available on favorable terms, if at all,
or that such funding if obtained would enable the Company to achieve the desired
output level. In the interim, the Company is using existing funds to expand
production capacity incrementally. See "Introductory Statement - Forward-looking
Statement Disclaimer."
Year 2000 Disclosure
The year 2000 issue referred to the risk of disruptions of operations caused by
the failure of computer-controlled systems, including systems used by third
parties, to properly recognize date sensitive information when the year changed
from 1999 to 2000. During the year ended October 31, 1999, the Company installed
new software as part of an on-going project to upgrade its financial and
management information systems. The cost of upgrading the software occurred in
the normal course of business and was not material to the results of operations
or financial condition of the Company.
The Company has not experienced any significant business disruptions due to year
2000 issues causing processing errors in its systems, or a third party's
systems, including during the period of operation after January 1, 2000.
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest Rate Exposure
The Company's exposure to market risk for changes in interest rates relates
primarily to the Company's investment portfolio and long term debt obligations.
The investment portfolio includes short term United States Treasury instruments
with maturities of three months or less. Cash is invested overnight with high
credit quality financial institutions. The Company's notes payable expire in
2000 and 2001. Based on the Company's overall interest exposure at October 31,
1999, including all interest rate sensitive instruments, a near-term change in
interest rate movements would not materially affect the consolidated results of
operations or financial position of the Company.
Currency Rate Exposure
The Company's functional currency is the U.S. dollar. To the extent that the
Company expands its international operations, the Company will be exposed to
increased risk of currency fluctuation.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Consolidated Financial Statements and Supplementary Data of the Company are
listed under Part IV, Item 14, in this report.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
24
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item is contained in part under the caption
"Executive Officers of the Company" contained in Part I hereof and the remainder
is incorporated herein by reference to "Election of Directors" in the Company's
Proxy Statement for the Company's Annual Meeting of Shareholders to be held on
[March 22, 2000 must confirm] (the "2000 Proxy Statement") to be filed with the
SEC within 120 days from the fiscal year end.
Item 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated herein by reference to the
Section captioned "Executive Compensation " to be contained in the 2000 Proxy
Statement to be filed with the SEC within 120 days from fiscal year end.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated herein by reference to the
Section captioned "Security Ownership of Certain Beneficial Owners and
Management" to be contained in the 2000 Proxy Statement to be filed with the SEC
within 120 days from fiscal year end.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated herein by reference to the
Section captioned "Certain Relationships and Related Transactions" to be
contained in the 2000 Proxy Statement to be filed with the SEC within 120 days
from fiscal year end.
PART IV
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(A) (1) FINANCIAL STATEMENTS
1) Independent Auditors' Report
KPMG LLP (See page F-2, hereof.)
2) Consolidated Balance Sheets as of October 31, 1999 and 1998 (See page F-3
hereof.)
3) Consolidated Statements of Income (Loss) for the Years Ended October 31,
1999, 1998 and 1997 (See page F-4, hereof.)
4) Consolidated Statements of Changes in Common Shareholders' Equity for the
Years Ended October 31, 1999, 1998 and 1997 (See page F-5, hereof.)
5) Consolidated Statements of Cash Flows for the Years Ended October 31, 1999,
1998 and 1997 (See page F-6, hereof.)
6) Notes to Consolidated Financial Statements (See pages F-7 thru F-22,
hereof.)
(A) (2) FINANCIAL STATEMENT SCHEDULES
Supplement 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.
25
(A) (3) EXHIBITS
(A) (3) EXHIBITS TO THE 10-K
Method of
Exhibit No. Description Filing
================================================================================
2 Distribution Agreement between the Company and Evercel, dated as of
February 16, 1999 (incorporated by reference to exhibit of the same
number contained in the Company's 8-K dated February 22, 1999)
3.1 Certificate of Incorporation of the Registrant, as amended, July 12, 1999
(incorporated by reference to exhibit of the same number contained in the
Company's 8-K dated September 21, 1999)
3.2 Restated By-Laws of the Registrant, dated July 13,1999 (incorporated by
reference to exhibit of the same number contained in the Company's 10-KSB
for fiscal year ended October 31, 1992 dated January 20, 1993)
4 Specimen of Common Share Certificate
10.4 **License Agreement, dated November 24, 1981, between Mitsubishi Electric
and the Company, as amended by Agreements dated December 4, 1981, June 3,
1983, January 11, 1984, November 20, 1986, November 23, 1988 and November
23, 1991 (confidential treatment requested) (incorporated by reference to
exhibit of the same number contained in the Company's Amendment No. 1 to
its Registration Statement on Form S-1 (File No. 33-47233) dated June 1,
1992)
10.6 **License Agreement, dated February 11, 1988, between EPRI and the
Company (confidential treatment requested) (incorporated by reference to
exhibit of the same number contained in the Company's Registration
Statement on Form S-1 (File No. 33-47233) dated April 14, 1992)
10.9 **License Agreement, dated November 30, 1989, between
Messerschmitt-Daimler Benz and the Company (confidential treatment
requested) (incorporated by reference to exhibit of the same number
contained in the Company's Registration Statement on Form S-1 (File No.
33-47233) dated April 14, 1992)
10.21 *FuelCell Energy, Inc. 1988 Stock Option Plan (incorporated by reference
to exhibit of the same number contained in the Company's Amendment No. 1
to its Registration Statement on Form S-1 (File No. 33-47233) dated June
1, 1992)
10.26 Addendum to License Agreement, dated as of September 29, 1989, between
Messerschmitt-Daimler Benz and the Company (incorporated by reference to
exhibit of the same number contained in the Company's Amendment No. 3 to
its Registration Statement on Form S-1 (File No. 33-47233) dated June 24,
1992)
10.27 Cross-Licensing and Cross-Selling Agreement, dated as of July 16, 1998,
between the Company and MTU Friedrichshafen GmbH (incorporated by
reference to exhibit of the same number contained in the Company's 10-K
dated January 28, 1999).
10.31 License Agreement For The Santa Clara Demonstration Project between the
Company and the Participants in the Santa Clara Demonstration Project,
dated September 16, 1993 (incorporated by reference to exhibit of the
same number contained in the Company's 10-KSB for fiscal year ended
October 31, 1993, dated January 18, 1994)
10.32 Security Agreement for the Santa Clara Demonstration Project, dated
September 16, 1993 (incorporated by reference to exhibit of the same
number contained in the Company's 10-KSB for fiscal year ended October
31, 1993, dated January 18, 1994)
26
(A) (3) EXHIBITS TO THE 10-K
Method of
Exhibit No. Description Filing
================================================================================
10.33 Guaranty By FuelCell Energy, Inc., dated September 16, 1993 for the Santa
Clara Demonstration Project (incorporated by reference to exhibit of the
same number contained in the Company's 10-KSB for fiscal year ended
October 31, 1993, dated January 18, 1994)
10.34 Guaranty by Fuel Cell Manufacturing Corporation, dated September 16, 1993
for the Santa Clara Demonstration Project (incorporated by reference to
exhibit of the same number contained in the Company's 10-KSB for fiscal
year ended October 31, 1993, dated January 18, 1994)
10.36 *The FuelCell Energy, Inc. Section 423 Stock Purchase Plan (incorporated
by reference to exhibit of the same number contained in the Company's
10-KSB for fiscal year ended October 31, 1994 dated January 18, 1995)
10.39 **Cooperative Agreement, dated December 20, 1994, between the Company and
the United States Department of Energy, Cooperative Agreement
#DE-FC21-95MC31184 (confidential treatment requested) (incorporated by
reference to exhibit of the same number contained in the Company's 10-KSB
for fiscal year ended October 31, 1994 dated January 18, 1995)
10.40 Loan and Security Agreement between the Company and MetLife Capital
Corporation. (incorporated by reference to exhibit of the same number
contained in the Company's 10-KSB for fiscal year ended October 31, 1995
dated January 17, 1996)
10.41 *Amendment No. 2 to the FuelCell Energy, Inc. Section 423 Stock Purchase
Plan (incorporated by reference to exhibit of the same number contained
in the Company's 10-Q for the period ended April 30, 1996 dated June 13,
1996)
10.42 *Amendments to the FuelCell Energy, Inc. 1988 Stock Option Plan
(incorporated by reference to exhibit of the same number contained in the
Company's 10-Q for the period ended April 30, 1996 dated June 13, 1996)
10.43 Loan Agreements with First Union Bank of Connecticut, dated June 28, 1996
(incorporated by reference to exhibit of the same number contained in the
Company's 10-Q for the period ended July 31, 1996 dated September 12,
1996)
10.44 Notes in favor of First Union Bank of Connecticut, dated June 28, 1996
(incorporated by reference to exhibit of the same number contained in the
Company's 10-Q for the period ended July 31, 1996 dated September 12,
1996)
10.45 Security Agreements with First Union Bank of Connecticut, dated June 28,
1996 (incorporated by reference to exhibit of the same number contained
in the Company's 10-Q for the period ended July 31, 1996 dated September
12, 1996)
10.47 Amendment of Cooperative Agreement dated September 5, 1996 between the
Company and the United States Department of Energy, Cooperative Agreement
#DE-FC21-95MC31184 (incorporated by reference to exhibit of the same
number contained in the Company's 10-K for the fiscal year ended October
31, 1998)
10.48 *Employment Agreement between FuelCell Energy, Inc. and the Chief
Financial Officer, Treasurer and Secretary, dated October 5, 1998.
10.49 *Employment Agreement between FuelCell Energy, Inc. and the President and
Chief Executive Officer, dated August 1, 1997 (incorporated by reference
to exhibit of the same number contained in the Company's 10-K for the
fiscal year ended October 31, 1997)
27
(A) (3) EXHIBITS TO THE 10-K
Method of
Exhibit No. Description Filing
================================================================================
10.50 Technology Transfer and License Agreement between the Company and the
Joint Venture owned jointly by the Xiamen Daily-Used Chemicals Co., Ltd.
of China and Nan Ya Plastics Corporation of Taiwan, dated February 21,
1998 (incorporated by reference to exhibit of the same number contained
in the Company's 10-Q for the period ended April 30, 1998)**.
10.51 Technology Transfer and License Contract, dated May 29, 1998 for Ni-Zn
Battery Technology among Xiamen ERC Battery Corp., Ltd., and Xiamen
Daily-Used Chemicals Co., Ltd. And the Company (incorporated by reference
to exhibit of the same number contained in the Company's 10-Q for the
period ended July 31, 1998)**.
10.52 Cooperative Joint Venture Contract, dated as of July 7, 1998, between
Xiamen Three Circles Co., Ltd. And the Company for the establishment of
Xiamen Three Circles-ERC Battery Corp., Ltd., a Sino Foreign
Manufacturing Joint Venture (incorporated by reference to exhibit of the
same number contained in the Company's 10-Q for the period ended July 31,
1998)**.
10.53 Amendment to the FuelCell Energy, Inc. 1988 Stock Option Plan, as amended
(incorporated by reference to exhibit of the same number contained in the
Company's 10-Q for the period ended July 31, 1998).
10.54 The FuelCell Energy, Inc. 1998 Equity Incentive Plan (incorporated by
reference to exhibit of the same number contained in the Company's 10-Q
for the period ended July 31, 1998).
21 Subsidiaries of the Company (incorporated by reference to exhibit of the
same number contained in the Company's Registration Statement on Form
S-1, (File No. 33-47233) dated April 14, 1992)
23.1 Consent of KPMG LLP
27 Financial data schedule
* Management Contract or Compensatory Plan or Arrangement
**Confidential Treatment has been granted for portions of this document.
(b) The following Current Reports on Form 8-K were filed by the Registrant
during the last quarter of the fiscal year 1999.
(i) Current Report on Form 8-K filed with the SEC on October 29, 1999
(date of report October 20, 1999) (regarding the declaration of a
stock dividend).
(ii) Current Report on Form 8-K filed with the SEC on September 22, 1999
(date of report September 21, 1999) (regarding the announcement of
changing Energy Research Corporation's name to FuelCell Energy, Inc.,
to increase the number of authorized shares of Common Stock of the
Company from 8,000,000 to 20,000,000, and to change the Company's
state of incorporation from New York to Delaware).
28
Table of Contents
Page
Independent Auditors' Report F-2
Consolidated Balance Sheets - October 31, 1999 and 1998 F-3
Consolidated Statements of Income (Loss) for theYears ended
October 31, 1999, 1998 and 1997 F-4
Consolidated Statements of Changes in Common
Shareholders' Equity for the Years ended October 31,
1999, 1998 and 1997 F-5
Consolidated Statements of Cash Flows for the Years
ended October 31, 1999, 1999 and 1997 F-6
Notes to Consolidated Financial Statements F-7
F-1
Independent Auditors' Report
The Board of Directors
FuelCell Energy, Inc.
We have audited the accompanying consolidated balance sheets of FuelCell Energy,
Inc, formerly Energy Research Corporation (the "Company") as of October 31, 1999
and 1998, and the related consolidated statements of income (loss), changes in
common shareholders' equity and cash flows for each of the years in the
three-year period ended October 31, 1999. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of FuelCell Energy,
Inc. as of October 31, 1999 and 1998, and the results of their operations and
their cash flows for each of the years in the three-year period ended October
31, 1999, in conformity with generally accepted accounting principles.
KPMG LLP
January 28, 2000
Stamford, CT
F-2
FUELCELL ENERGY, INC.
Consolidated Balance Sheets
October 31, 1999, 1998 and 1997
(Dollars in thousands, except share and per share amounts)
FuelCell Energy, Inc.
1999 1998
---------- ----------
ASSETS
Current assets:
Cash and cash equivalents $ 6,163 10,304
Accounts receivable 2,332 3,813
Inventories 1,204 30
Deferred income taxes 291 1,073
Other current assets 405 646
---------- ----------
Total current assets 10,395 15,866
Property, plant and equipment, net 7,195 8,347
Other assets, net 2,241 2,630
---------- ----------
Total assets $ 19,831 26,843
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt $ 341 755
Accounts payable 484 620
Accrued liabilities 1,787 1,758
Deferred license fee income 29 1,329
Customer advances 550 1,170
---------- ----------
Total current liabilities 3,191 5,632
Long-term liabilities:
Long-term debt 1,625 1,944
Deferred income taxes -- 177
---------- ----------
Total liabilities 4,816 7,753
---------- ----------
Minority 200 3,220
interest ---------- ----------
Shareholders'
equity:
Convertible preferred stock, Series C ($.01 par
value); 30,000 shares outstanding in 1998 -- 600
---------- ----------
Common shareholders' equity:
Common stock, ($.0001 par value);
20,000,000 shares authorized: 6,325,872 and
6,193,910 shares issued and
outstanding in 1999 and 1998, respectively
Additional paid-in capital 14,142 12,943
Retained earnings 673 2,327
---------- ----------
Total common shareholders' equity 14,815 15,270
---------- ----------
Total shareholders' equity 14,815 15,870
---------- ----------
Total liabilities and shareholders' equity $ 19,831 26,843
========== ==========
The accompanying notes are an integral part of the
consolidated financial statements.
F-3
FUELCELL ENERGY, INC.
Consolidated Statements of Income (Loss)
October 31, 1999, 1998 and 1997
(Dollars in thousands, except share and per share amounts)
1999 1998 1997
----------- ----------- -----------
Revenues $ 19,965 24,318 24,830
Costs and expenses:
Cost of revenues 12,422 14,590 15,642
Administrative and selling 6,615 6,986 6,081
Depreciation 1,362 1,529 1,768
Research and development 1,813 2,258 1,270
----------- ----------- -----------
Total costs and expenses 22,212 25,363 24,761
----------- ----------- -----------
Income (loss) from operations (2,247) (1,045) 69
License fee income, net 1,527 678 650
Interest expense (169) (269) (354)
Interest and other income, net 195 267 307
----------- ----------- -----------
Income (loss) before provision for
Income taxes (694) (369) 672
Provision for income taxes 291 13 247
----------- ----------- -----------
Net income (loss) $ (985) (382) 425
=========== =========== ===========
Basic earnings (loss) per share $ (0.16) (0.06) 0.07
=========== =========== ===========
Basic shares outstanding 6,226,714 6,121,527 5,931,760
=========== =========== ===========
Diluted earnings (loss) per share $ (0.16) (0.06) 0.07
=========== =========== ===========
Diluted shares outstanding 6,226,714 6,121,527 6,287,745
=========== =========== ===========
The accompanying notes are an integral part of the
consolidated financial statements.
F-4
FUELCELL ENERGY, INC.
Statements of Changes in Common Shareholders' Equity
October 31, 1999, 1998 and 1997
(Dollars in thousands, except share and per share amounts)
Shares Total
Of Additional Common
Common Paid-in Retained Shareholders'
Stock Capital Earnings Equity
---------- ---------- ---------- ----------
Balance at October 31, 1996 5,867,680 $ 11,178 2,284 13,462
Issuance of common stock
under benefit plans 144,932 188 -- 188
Common stock retired (12,179) -- -- --
Conversion of notes payable
to common stock 542 3 -- 3
Tax effect of disposition
of stock options -- 91 -- 91
Net income -- -- 425 425
---------- ---------- ---------- ----------
Balance at October 31, 1997 6,000,975 11,460 2,709 14,169
Compensation for stock options granted -- 239 -- 239
Issuance of common stock under
benefit plans 22,839 172 -- 172
Common stock retired (3,033) (31) -- (31)
Stock options exercised 173,129 718 -- 718
Tax effect of disposition
of stock options -- 385 -- 385
Net loss -- -- (382) (382)
---------- ---------- ---------- ----------
Balance at October 31, 1998 6,193,910 12,943 2,327 15,270
Compensation for stock options granted -- 133 -- 133
Issuance of common stock under benefit plans 19,388 138 -- 138
Common stock retired (6,712) (87) -- (87)
Stock options exercised 74,286 415 -- 415
Preferred stock conversion 45,000 600 -- 600
Transfer of net assets to Evercel, Inc. -- -- (669) (669)
Net loss -- -- (985) (985)
---------- ---------- ---------- ----------
Balance at October 31, 1999 6,325,872 $ 14,142 673 14,815
========== ========== ========== ==========
The accompanying notes are an integral part of the
consolidated financial statements.
F-5
FUELCELL ENERGY, INC.
Consolidated Statements of Cash Flows
October 31, 1999, 1998 and 1997
(Dollars in thousands, except share and per share amounts)
1999 1998 1997
-------- -------- --------
Cash flows from operating activities:
Net income (loss) $ (985) (382) 425
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Compensation for options granted 133 239 --
Depreciation and amortization 1,770 1,942 2,162
Deferred income taxes 605 (738) (90)
Conversion of accrued interest to
Principal on long-term debt -- -- 38
(Gain) loss on disposal of property (15) 6 (1)
(Increase) decrease in operating assets:
Accounts receivable 1,445 (985) 20
Inventories (1,174) 17 25
Other current assets 241 (367) (48)
Increase (decrease) in operating liabilities:
Accounts payable (136) (245) (367)
Accrued liabilities 98 1,746 63
Customer advances (620) -- --
Deferred license fee income (1,300) 1,283 (66)
-------- -------- --------
Net cash provided by operating activities 62 2,516 2,161
-------- -------- --------
Cash flows from investing activities:
Capital expenditures (1,244) (1,650) (2,801)
Proceeds-sale of marketable securities -- -- 2,025
Proceeds from sale of fixed assets 603 -- --
Payments on other assets (213) (3) (77)
Net cash used in investing activities (854) (1,653) (853)
-------- -------- --------
Cash flows from financing activities:
Transfer of minority interest to Evercel, Inc. (3,082) -- --
Repayment on long-term debt (733) (1,701) (2,382)
Sale of minority interest in joint venture -- 3,220 --
Common stock issued 466 858 188
Tax effect of stock options exercised -- 262 91
-------- -------- --------
Net cash provided by (used) in
financing activities (3,349) 2,639 (2,103)
-------- -------- --------
Net increase (decrease) in cash and cash equivalents (4,141) 3,502 (795)
-------- -------- --------
Cash and cash equivalents-beginning of year 10,304 6,802 7,597
-------- -------- --------
Cash and cash equivalents-end of year $ 6,163 10,304 6,802
======== ======== ========
Cash paid during the period for:
Interest $ 158 269 344
Income taxes 104 620 446
Other non cash transactions:
Conversion of preferred stock 600 -- --
Net assets transferred to Evercel, Inc. 669 -- --
The accompanying notes are an integral part of the
consolidated financial statements.
F-6
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
(1) Summary of Significant Accounting Policies
Nature of Business
FuelCell Energy, Inc. (the Company or FCE) is engaged in the development
and commercialization of electrochemical technologies for electric power
generation. The Company manufactures carbonate fuel cells, generally on a
contract basis.
The Company's revenues are generated from customers located throughout the
United States and Europe. The Company generally does not require collateral
in providing credit except for international sales where a deposit may be
required with the purchase orders.
Principles of Consolidation
The accompanying financial statements include the accounts of the Company
and its subsidiary: Xiamen-ERC High Technology Joint Venture, Inc. a
66-2/3% owned joint venture formed between the Company and the City of
Xiamen, PRC.
Cash and Cash Equivalents
Cash equivalents consist primarily of investments in a money market fund
with original maturities of three months or less at date of acquisition.
The Company places its temporary cash investments with high credit quality
financial institutions.
Inventories
Inventories consist principally of raw materials and are stated at the
lower of cost or market.
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 patents and know-how is carried at no
value.
Impairment of Long Lived Assets
The Company reviews long-lived assets and certain identifiable intangibles
for impairment whenever events or changes in circumstances indicate that
the carrying amount of an asset may not be recoverable. Recoverability of
assets to be held and used is measured by a comparison of the carrying
amount of an asset to future undiscounted net cash flows expected to be
generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets. Assets to be
disposed of are reported at the lower of the carrying amount or fair value
less costs to sell.
F-7
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
Revenue/License Fee Revenue, Recognition
Revenues and fees on long-term contracts, including government and
commercial cost reimbursement contracts, are recognized on the
percentage-of-completion method. Percentage-of-completion is measured by
costs (including applicable general and administrative) incurred and
accrued to date as compared with the estimated total costs for each
contract. Contracts typically extend over a period of one or more years. In
accordance with industry practice, receivables include amounts relating to
contracts and programs having production cycles longer than one year and a
portion thereof will not be realized within one year. Provisions for
estimated losses, if any, are made in the period in which such losses are
determined to be probable. The Company recognized approximately $2,579,
$74, and $42 of long-term contract revenues from corporate shareholders of
the Company during fiscal years ended October 31, 1999, 1998 and 1997,
respectively.
License fee income arises from license agreements whereby the Company
grants the right to use Company patents and know-how. Amounts are deferred
and recognized ratably over the respective terms of the agreements. The
Company recognized approximately $250, $266 and, $316 of license fee income
during each of the fiscal years ended October 31, 1999, 1998 and 1997,
under license agreements with corporate shareholders of the Company.
Revenues from the U.S. Government and its agencies directly and through
primary contractors were $17,386, $24,221 and $23,377 for the years ended
October 31, 1999, 1998 and 1997, respectively.
Income Taxes
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective
tax bases and operating loss and tax credit carryforwards. Deferred tax
assets and liabilities are measured using enacted tax rates expected to
apply to taxable income in the years in which those temporary differences
are expected to be recovered or settled. The effect on deferred tax assets
and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date.
Stock Option Plan
The Company continues to account for its stock option plans in accordance
with the provisions of Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees, and related interpretations." As
such, compensation expense is recorded on the date of grant only if the
current market price of the underlying stock exceeds the exercise price.
Statement of Financial Accounting Standard ("SFAS") No. 123, "Accounting
for Stock-Based Compensation," which encourages entities to recognize as
expense over the vesting period the fair value of all stock-based awards on
the date of grant. Alternatively, SFAS No. 123 also allows entities to
continue to apply the provisions of APB Opinion No. 25 and provide pro
forma net income and pro forma earnings per share disclosures for employee
stock option grants as if the fair-value-based method defined in SFAS No.
123 had been applied. The Company applies the recognition provisions of APB
Opinion No. 25 and provides the pro forma disclosure provisions of SFAS No.
123.
F-8
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
Earnings Per Share (EPS)
Basic EPS is computed by dividing income available to common stockholders
by the weighted average number of common shares outstanding during the
period. The computation of diluted EPS is similar to the computation of
basic EPS except that it gives effect to all potentially dilutive
instruments that were outstanding during the period. In 1999 and 1998, the
Company computed diluted EPS without consideration to potentially dilutive
instruments due to the loss incurred by the Company. All per share data and
the number of shares of common stock have been retroactively adjusted to
reflect the three-for-two stock dividend which became effective November
16, 1999.
Use of Estimates
Management of the Company has made a number of estimates and assumptions
relating to the reporting of assets and liabilities and the disclosure of
contingent assets and liabilities to prepare these financial statements in
conformity with generally accepted accounting principles. Actual results
could differ from those estimates.
Recent Accounting Pronouncements
SFAS No. 130 - During 1999, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income". The statement establishes standards for reporting
and display of comprehensive income and its components in a full set of
general purpose financial statements. For the Company, comprehensive income
is the same as net income (loss) accordingly separate disclosure of
comprehensive income is not presented.
SFAS No. 133 - SFAS No. 133 "Accounting for Derivative Instruments and
Hedging Activities". It requires that an entity recognize all derivative
instruments as either assets or liabilities in the statement of financial
position and measure those instruments at fair value. As amended, this
statement is effective for all fiscal quarters of fiscal years beginning
after June 15, 2000. The Company does not expect the adoption of this
statement to have a material impact on its financial position or results of
operations because it does not currently purchase derivative instruments or
enter into hedging activities.
During 1998, the American Institute of Certified Public Accountants
("AICPA") released its Statement of Position No. 98-1 ("SOP 98-1")
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use" and Statement of Position No. 98-5 ("SOP 98-5") "Reporting on
the Costs of Start-Up Activities," both of which are effective for fiscal
years beginning after December 15, 1998. SOP 98-1 requires that certain
costs related to the development or purchase of internal-use software be
capitalized and amortized over the estimated useful life of the software.
SOP 98-1 also requires that the costs related to the preliminary project
stage and the post-implementation stage of an internal-use computer
software development project be expensed as incurred. SOP 98-5 requires
that the costs of start-up activities be expensed as incurred. SOP 98-5
requires companies to report the initial application of the standard as a
cumulative effect of an accounting change. The Company is required to adopt
these standards in fiscal 2000. Management believes that the adoption of
these standards will not have a material effect on the Company's results.
(2) Spin-Off of Evercel, Inc., Joint Ventures and License Agreements
On February 22, 1999, the Company effected a spin-off to its stockholders
of 100% of the shares of Evercel, Inc. ("Evercel"). The Company had
previously transferred to Evercel the principal assets and liabilities of
its battery business group. The Company distributed to its stockholders in
a tax-free distribution one share of Evercel Common Stock for every three
shares of common stock of the Company held on the record date of February
19, 1999.
F-9
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
In accordance with the License Assistance Agreement between the Company and
Evercel, Evercel has agreed to provide all services and assistance
necessary for Evercel to effectively fulfill, on behalf of the Company, all
of the Company's obligations under the joint venture contract for Xiamen
Three Circles-ERC Battery Corp., Ltd. (the "Joint Venture") and the related
license agreement until such time as the Company obtains the approval from
the Chinese partner and appropriate Chinese governmental authority for the
assignment of such agreements to Evercel. In return for such assistance,
the Company will pay to Evercel and Evercel will pay to the Company an
amount equal to the sum of all money, dividends, profits, reimbursements,
distributions and payments actually paid to the Company or paid by the
Company in cash or in kind or otherwise accruing to the Company pursuant to
the Joint Venture contract and related license agreement.
On February 22, 1999, the effective date of the spin-off, the Company
deconsolidated the financial statements of Evercel and the Joint Venture
from the consolidated financial statements of the Company. As part of the
spin-off of Evercel, the Company transferred capital assets (net), prepaid
spin-off costs, accounts receivable and short-term liabilities amounting to
$1,228,, $501,, $36, and $1,096, respectively.
During 1998 the Company also formed a joint venture with the City of
Xiamen, China, called Xiamen-ERC High Technology Joint Venture, Inc. This
joint venture has been formed to fund other entities, such as Xiamen
University, to conduct research in advanced electrochemical technologies,
which will benefit the Company and Xiamen. The Company has invested $400 of
capital into this joint venture.
(3) Accounts Receivable
Accounts receivable at October 31, 1999 and 1998 consisted of the
following:
1999 1998
------ ------
U.S. Government:
Amount billed $1,850 382
Unbilled recoverable costs 52 2,361
Retainage 185 724
------ ------
2,087 3,467
------ ------
Commercial Customers:
Amount billed 235 56
Unbilled recoverable costs 1 283
Retainage 9 7
------ ------
245 346
------ ------
$2,332 3,813
====== ======
Unbilled recoverable costs represent amounts of revenue recognized on costs
incurred on contracts in progress which will be billed within the next 30
days. The balances billed but not paid by customers pursuant to retainage
provisions in the contracts will be due upon completion of the contracts
and acceptance by the customer.
F-10
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
(4) Property, Plant and Equipment
Property, plant and equipment at October 31, 1999 and 1998 consisted of the
following:
Estimated
1999 1998 Useful Life
-------- -------- -----------
Land $ 524 524 --
Building and improvements 4,581 4,508 30 years
Machinery and equipment 14,618 15,121 3-8 years
Furniture and fixtures 1,415 1,409 6-10 years
Construction in progress 527 1,938
-------- ----------
21,665 23,500
Less, accumulated
depreciation and
amortization (14,470) (15,153)
-------- ----------
$ 7,195 8,347
======== ==========
(5) Other Assets
Other assets at October 31, 1999 and 1998 consisted of the following:
1999 1998
------ ------
Power Plant License $1,937 2,221
Other 304 409
------ ------
Total $2,241 2,630
====== ======
The Power Plant License is being amortized over 10 years. Accumulated
amortization was $1,658, $1,374, and $1,091 at October 31, 1999, 1998 and
1997, respectively.
F-11
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
(6) Long-Term Debt
Long-term debt at October 31, 1999 and 1998 consisted of the following:
1999 1998
------- -------
Note payable (a) 191 774
Note payable (b) 1,775 1,925
------- -------
1,966 2,699
Less - current portion (341) (755)
------- -------
Long-term debt, less
current portion $ 1,625 1,944
======= =======
As of October 31, 1999, the above notes payable mature as follows: fiscal
2000, $341; fiscal 2001, $1,625.
(a) During 1995, the Company entered into a $2,500 credit facility with GE
Capital (formerly MetLife Capital Corporation, an affiliate of
Metropolitan Life Insurance Company). Repayment of this note commenced
during 1996 and the remaining balance of $191 at October 31, 1999 is
included in current portion as this facility expires February 2000.
(b) The note is payable to First Union Bank in monthly installments of $13
plus interest. Interest on this note is payable at LIBOR plus 1.75% or
7.17% at October 31, 1999 and 7.19% at October 31, 1998.
The borrowings under the First Union Bank agreement are collateralized
by a substantial portion of the Company's equipment and other assets,
and a mortgage is collateralized by a first mortgage on the Company's
Danbury, Connecticut location. The credit agreement associated with
the Notes above require the Company to maintain certain financial
covenants, including tangible net worth, debt service coverage and
liabilities to tangible net worth.
(7) Commitments and Contingencies
The Company leases certain computer and office equipment and the
Torrington, Connecticut manufacturing facility, and office space in
Washington, D.C. under operating leases expiring on various dates through
2004. Rent expense was $517, $472 and $463 for the fiscal years ended
October 31, 1999, 1998 and 1997, respectively. Aggregate minimum annual
payments under the lease agreements for the five years subsequent to
October 31, 1999 are: 2000, $510; 2001, $230; 2002, $133; 2003, $117; and
2004, $82.
The Company has an agreement with Electric Power Research Institute (EPRI)
pursuant to which FCE has agreed to pay EPRI royalties based upon
commercial sales of carbonate fuel cells. Through October 31, 1999, the
Company has not paid any royalties to EPRI.
In connection with certain contracts and grants from the United States
Department of Energy (DOE), FCE has agreed to pay DOE 10% of the annual
license income received from MTU-Friedrichshafen GmbH ("MTU"), up to $500.
Through 1999, FCE has paid to DOE a total of $250.
F-12
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
(8) Shareholders' Equity
In 1999, 30,000 shares of Preferred "C" were converted to 30,000 shares of
the Company's common stock.
At October 31, 1999, 889,253 shares of common stock have been reserved for
issuance pursuant to the Company's stock option plans, and the Company's
Section 423 Stock Purchase Plan.
(9) Stock Option Plan
The Board has adopted 1988 and 1998 Stock Option Plans (collectively the
Plans). Under the terms of the Plans, options to purchase up to 1,801,500
shares of common stock may be granted to officers, key employees and
directors of the Company. Pursuant to the Plans, the Board is authorized to
grant incentive stock options or nonqualified options and stock
appreciation rights to officers and key employees of the Company and may
grant nonqualified options and stock appreciation rights to directors of
the Company. Stock options and stock appreciation rights have restrictions
as to transferability. The option exercise price shall be fixed by the
Board but, in the case of incentive stock options, shall not be granted at
an exercise price less than 100% of the fair market value of the shares
subject to the option on the date the option is granted. Stock appreciation
rights may be granted in conjunction with options granted under the Plans.
Stock options that have been granted are exercisable commencing one year
after grant at the rate of 25% of such shares in each succeeding year.
There were no stock appreciation rights outstanding at October 31, 1999 and
1998.
In 1997, in connection with the hiring of the Company's Chief Executive
Officer, options were granted to purchase 223,500 shares of the Company's
common stock at the Purchase price of $6.587 per share (the market value at
the date of the grant). The Company also granted options to purchase an
additional 151,500 shares at $6.587 per share based upon the approval of
the shareholders at the 1998 annual meeting of the shareholders.
The per share weighted-average fair value of stock options granted in 1999,
1998 and 1997 was $8.43, $7.99, and $7.15, respectively, on the date of
grant using the Black Scholes option-pricing model with the following
weighted-average assumptions:
Risk free
Dividend interest rate Expected Volatility
Year rate range life factor
---- -------- ------------- -------- ----------
1999 0% 5.20-5.34% 10 years .6300
1998 0% 4.31-4.43% 10 years .5495
1997 0% 6.07-6.66% 10 years .5044
F-13
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
No compensation cost has been recognized for stock options in the
consolidated financial statements. Had the Company determined compensation
cost based on the fair value at the grant date for its stock options, the
Company's net income (loss) and earnings (loss) per share would have been
the pro forma amounts indicated below.
1999 1998 1997
---- ---- ----
Net income(loss): As reported $ (985) (382) 425
Pro forma $ (1,999) (1,070) 39
Earnings(loss) per share: As reported - Basic $ (0.16) (0.09) 0.11
Pro forma - Basic $ (0.32) (0.17) 0.01
As reported - Diluted $ (0.16) (0.09) 0.10
Pro forma - Diluted $ (0.32) (0.17) 0.01
The following table summarizes the Plan's activity for the years ended
October 31, 1999, 1998 and 1997:
Number Weighted average
of shares option price
--------- ------------
Outstanding at October 31, 1996 434,850 $3.39
Granted 328,500 $7.07
-------
Exercised (136,848) $1.23
Outstanding at October 31, 1997 626,502 $5.79
Granted 226,500 $7.28
Exercised (172,903) $4.17
Cancelled (4,500) $8.17
-------
Outstanding at October 31, 1998 675,599 $6.47
Granted 154,692 $6.11
Exercised (74,288) $5.60
Cancelled (4,500) $8.17
-------
Outstanding at October 31, 1999 751,503 $6.25
The following table summarizes information about stock options
outstanding and exercisable at October 31, 1999:
Options Outstanding Options exercisable
-------------------------------------------- -------------------------
Weighted
average Weighted Weighted
remaining average average
Range of exercise Number contractual exercise Number exercise
price outstanding life price exercisable price
----------------- ----------- ---------- ---------- ----------- ---------
$ 2.52 45,842 0.9 years $ 2.52 45,842 $ 2.52
$ 5.46 - $ 7.28 705,661 7.7 years $ 6.50 353,494 $ 6.38
F-14
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
The shareholders of the Company adopted a Section 423 Stock Purchase Plan
on April 30, 1993 and was last amended on October 6, 1999. The total shares
allocated to the Plan are 225,000. The shares are offered to employees over
an eight-year period commencing January 1, 1993. It allows an employee with
one year of service to purchase up to 450 shares per year at 85% of the
lower of the average price on the day of grant or issue. An employee may
not sell the stock for six months after the date of issue.
Plan activity for the years ended October 31, 1999, 1998 and 1997, was as
follows:
Number of Shares
----------------
Balance at October 31, 1996 188,060
Issued @ $6.88 (1,614)
Issued @ $5.70 (6,470)
--------
Balance at October 31, 1997 179,976
Issued @ $5.70 (10,496)
Issued @ $9.10 (12,343)
--------
Balance at October 31, 1998 157,137
Issued @ $7.37 (2,400)
Issued @ $6.18 (1,950)
Issued @ $7.23 (15,037)
--------
Balance at October 31, 1999 137,750
---------
(10) Employee Benefits
The Capital Accumulation Plan for employees of FuelCell Energy, Inc. was
established by the Company on January 19, 1987 and was last amended on June
1, 1997. The Plan is administered by a three-member pension committee. The
plan is a 401(k) plan covering full-time employees of the Company who have
completed one year of service. The Company contributes an amount equal to
5% of each participant's W-2 compensation to the plan on a monthly basis.
Participants are required to contribute 3% and may make voluntary
contributions up to an additional 7% of W-2 compensation out of pretax
earnings. Effective June 1, 1997, participants may make voluntary
contributions up to an additional 6% of W-2 compensation out of after-tax
earnings. The Company charged $402, $435, and $412 to expense during the
years ended October 31, 1999, 1998 and 1997, respectively.
The FuelCell Energy, Inc. Pension Plan, a defined contribution plan was
established by the Company on May 10, 1976 and was last amended on June 1,
1997. The Plan covers full-time employees of the Company who have completed
one year of service. The Company contributes an amount equal to 4%
effective April 1, 1993 (previously 5%) of each participant's W-2
compensation to the plan on a monthly basis. The Company charged $312, $343
and $346 to expense during the years ended October 31, 1999, 1998 and 1997,
respectively.
F-15
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
(11) Income Taxes
The components of Federal income tax expense (benefit) were as follows for
the years ended October 31, 1999, 1998 and 1997:
1999 1998 1997
----- ----- -----
Current:
Federal $(188) 122 327
Foreign -- 460 10
----- ----- -----
(188) 582 337
----- ----- -----
Deferred:
Federal 479 (569) (90)
Foreign -- -- --
----- ----- -----
479 (569) (90)
----- ----- -----
Total income tax expense $ 291 13 247
----- ----- -----
The components of state income tax expense which are included in
administrative and selling expenses were as follows for the years ended
October 31, 1999, 1998 and 1997:
1999 1998 1997
---- ---- ----
Current $ 48 227 148
Deferred 126 (169) (9)
---- ---- ----
Total state income tax expense $174 58 139
---- ---- ----
The reconciliation of the federal statutory income tax rate to the
Company's effective income tax rate for the years ended October 31, 1999,
1998 and 1997 was as follows:
1999 1998 1997
---- ---- ----
Statutory Federal
income tax rate (34.0%) (34.0%) 34.0%
Nondeductible expenditures 17.4 34.8 --
Other, net .9 2.8 2.7
Valuation Allowance 57.6 -- --
---- ---- ----
Effective income tax rate 41.9 3.6% 36.7%
---- ---- ----
F-16
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
The Company's federal and state deferred tax assets and liabilities consisted of
the following at October 31, 1999 and 1998:
1999 1998
------- -------
Deferred tax assets:
Bad debt $ 31 --
Deferred revenue -- 573
Compensation recognized on options 183 121
Incentive bonuses 189 150
Capital loss carryforward 24 24
Vacation accrual 50 34
Self-insurance 50 53
Tax credit carryforwards 590 140
Other 14 26
------- -------
Gross deferred tax assets 1,131 1,121
Valuation allowance (573) (24)
------- -------
Deferred tax assets after
valuation allowance 558 1,097
------- -------
Deferred liability -
Accumulated depreciation (267) (201)
------- -------
Gross deferred tax
liability (267) (201)
------- -------
Net deferred tax assets $ 291 896
------- -------
The valuation allowance increased by $549 and relates to foreign tax credit
and state net operating loss carryforwards that management believes more
likely than not will expire unutilized.
The Company has foreign tax credits of approximately $400 available for
carryforward which expire in 2002-2003. The Company has state net operating
loss carryforwards of approximately $1.4 million which expire 2004.
(12) Earnings Per Share
Basic and diluted earnings per share are calculated using the following
data:
1999 1998 1997
--------- --------- ---------
Weighted average basic
Common shares 6,226,714 6,121,527 5,931,760
Effect of dilutive securities
Stock options -- -- 205,985
Preferred "C" Convertible -- -- 45,000
Convertible debt -- -- 105,000
--------- --------- ---------
Weighted average basic
Common shares adjusted
for diluted calculations 6,226,714 6,121,527 6,287,745
--------- --------- ---------
F-17
FUELCELL ENERGY, INC.
Notes to Consolidated Financial Statements
October 31, 1999 and 1998
(dollars in thousands except share and per share amounts)
The computation of diluted loss per share for fiscal years 1999 and 1998
follows the basic calculation since common stock equivalents were
antidilutive. The weighted average shares of dilutive securities that would
have been used to calculate diluted EPS had their effect not been
antidilutive are as follows:
1999 1998
---- ----
Stock options 729,875 522,720
(13) Subsequent Events
On November 16, 1999, the Company paid a stock dividend of one additional
share of common stock for every two shares of the Company's Common Stock
held on November 1, 1999, the record date. All per share data and the
number of shares of common stock have been adjusted retroactively to give
effect to the stock dividend.
F-18
PART IV
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934,
the registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
FUELCELL ENERGY, INC.
- ---------------------------
Jerry D. Leitman, President
Dated: January 31, 2000
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/ Jerry D. Leitman
- ------------------------- Chief Executive Officer,
Jerry D. Leitman President, Director
(Principal Executive Officer) January 31, 2000
/s/ Joseph G. Mahler Chief Financial Officer, Vice
- ------------------------- President, Corporate Secretary,
Joseph G. Mahler Treasurer (Principal Accounting
and Financial Officer) January 31, 2000
/s/ Warren D. Bagatelle Director January 31, 2000
- -------------------------
Warren D. Bagatelle
/s/ Christopher R. Bentley Director January 31, 2000
- -------------------------
Christopher R. Bentley
/s/ Michael Bode Director January 31, 2000
- -------------------------
Michael Bode
/s/ James D. Gerson Director January 31, 2000
- -------------------------
James D. Gerson
/s/ Thomas L. Kempner Director January 31, 2000
- -------------------------
Thomas L. Kempner
/s/ William A. Lawson Director January 31, 2000
- -------------------------
William A. Lawson
29
Signature Capacity Date
--------- -------- ----
/s/ Hansraj C. Maru Director January 31, 2000
- -------------------------
Hansraj C. Maru
/s/ Bernard S. Baker Director January 31, 2000
- -------------------------
Bernard S. Baker
Director January 31, 2000
- -------------------------
Richard M.H. Thompson
30