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EX-32.1 - EX-32.1 - FUELCELL ENERGY INCfcel-ex321_9.htm
EX-31.1 - EX-31.1 - FUELCELL ENERGY INCfcel-ex311_6.htm
EX-23.1 - EX-23.1 - FUELCELL ENERGY INCfcel-ex231_33.htm
EX-21 - EX-21 - FUELCELL ENERGY INCfcel-ex21_8.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-K

 

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended October 31, 2017

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: 1-14204

 

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 No.)

 

 

 

3 Great Pasture Road

 

 

Danbury, Connecticut

 

06810

(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:

 

Title of each class

 

Name of each exchange on which registered

Common Stock, $0.0001 par value per share

 

The Nasdaq Stock Market LLC (Nasdaq Global Market)

 

Securities registered pursuant to Section 12(g) of the Act: None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yes No

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the 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 No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes 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.

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer 

 

Accelerated filer 

 

Non-accelerated filer 

 

Smaller reporting company 

 

 

 

 

(Do not check if a smaller reporting company)

 

Emerging growth company 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes No

As of April 28, 2017, the aggregate market value of the registrant’s common stock held by non-affiliates of the registrant was $54,054,838 based on the closing sale price of $1.15 as reported on the NASDAQ Global Market.

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.

 

Class

 

Outstanding at January 2, 2018

Common Stock, $0.0001 par value per share

 

75,678,919 

DOCUMENT INCORPORATED BY REFERENCE

 

Document

 

Parts Into Which Incorporated

Proxy Statement for the Annual Meeting of Stockholders to be held April 5, 2018

 

Part III

 


 

FUELCELL ENERGY, INC.

INDEX

 

 

 

Page

Description

 

Number

Part I

 

 

 

 

 

Item 1 Business

 

3

 

 

 

Item 1A Risk Factors

 

29

 

 

 

Item 1B Unresolved Staff Comments

 

45

 

 

 

Item 2 Properties

 

46

 

 

 

Item 3 Legal Proceedings

 

46

 

 

 

Item 4 Mine Safety Disclosures

 

46

 

 

 

Part II

 

 

 

 

 

Item 5 Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

 

47

 

 

 

Item 6 Selected Financial Data

 

55

 

 

 

Item 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

57

 

 

 

Item 7A Quantitative and Qualitative Disclosures About Market Risk

 

80

 

 

 

Item 8 Consolidated Financial Statements and Supplementary Data

 

81

 

 

 

Item 9 Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

 

117

 

 

 

Item 9A Controls and Procedures

 

117

 

 

 

Item 9B Other Information

 

118

 

 

 

Part III

 

 

 

 

 

Item 10 Directors, Executive Officers and Corporate Governance

 

118

 

 

 

Item 11 Executive Compensation

 

118

 

 

 

Item 12 Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

 

118

 

 

 

Item 13 Certain Relationships and Related Transactions, and Director Independence

 

118

 

 

 

Item 14 Principal Accountant Fees and Services

 

118

 

 

 

Part IV

 

 

 

 

 

Item 15 Exhibits and Financial Statement Schedules

 

119

 

 

 

Item 16 Form 10-K Summary

 

124

 

 

 

Signatures

 

125

 

 

 

 

2


 

PART I

Item 1.

BUSINESS

 

Index to Item 1. BUSINESS

 

Page

 

 

 

Forward-Looking Statement Disclaimer

 

4

 

 

 

Background

 

5

 

 

 

Additional Technical Terms and Definitions

 

6

 

 

 

Overview

 

7

 

 

 

Business Strategy

 

8

 

 

 

Markets

 

10

 

 

 

Strategic Alliances

 

12

 

 

 

Products

 

13

 

 

 

Manufacturing

 

16

 

 

 

Services and Warranty Agreements

 

17

 

 

 

License Agreements and Royalty Income

 

18

 

 

 

Advanced Technology Programs (Third Party Funded Research and Development)

 

18

 

 

 

Company Funded Research and Development

 

20

 

 

 

Backlog

 

20

 

 

 

Fuel Cell Technologies

 

21

 

 

 

Competition

 

21

 

 

 

Regulatory and Legislative Support

 

22

 

 

 

Government Regulation

 

23

 

 

 

Proprietary Rights and Licensed Technology

 

23

 

 

 

Significant Customers and Information about Geographic Areas

 

24

 

 

 

Sustainability

 

25

 

 

 

Associates

 

26

 

 

 

Available Information

 

26

 

3


 

Forward-Looking Statement Disclaimer

This Annual Report on Form 10-K contains statements that the Company believes to be “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. All statements other than statements of historical fact included in this Form 10-K, including statements regarding the Company’s future financial condition, results of operations, business operations and business prospects, are forward-looking statements.  Words such as “expects,” “anticipates,” “estimates,” “projects,” “intends,” “plans,” “believes,” “predicts,” “should,” “will,” “could,” “would,” “may,” “forecast,” and similar expressions and variations of such words are intended to identify forward-looking statements. Such statements relate to, among other things, the following:

 

the development and commercialization by FuelCell Energy, Inc. and its subsidiaries (“FuelCell Energy,” “Company,” “we,” “us” and “our”) of fuel cell technology and products and the market for such products,

 

expected operating results such as revenue growth and earnings,

 

our belief that we have sufficient liquidity to fund our business operations for the next 12 months,

 

future funding under Advanced Technologies contracts,

 

future financing for projects including publicly issued bonds, equity and debt investments by investors and commercial bank financing,

 

the expected cost competitiveness of our technology, and

 

our ability to achieve our sales plans and cost reduction targets.

The 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, the risks contained under Item 1A - Risk Factors of this report and the following:

 

general risks associated with product development and manufacturing,

 

general economic conditions,

 

changes in the utility regulatory environment,    

 

changes in the utility industry and the markets for distributed generation, distributed hydrogen, and carbon capture configured fuel cell power plants for coal and gas-fired central generation,

 

potential volatility of energy prices,

 

availability of government subsidies and economic incentives for alternative energy technologies,

 

rapid technological change,

 

competition,

 

market acceptance of our products,

 

changes in accounting policies or practices adopted voluntarily or as required by accounting principles generally accepted in the United States,

 

factors affecting our liquidity position and financial condition,

 

government appropriations,

 

the ability of the government to terminate its development contracts at any time,

 

the ability of the government to exercise “march-in” rights with respect to certain of our patents,

 

our changing relationship with POSCO Energy, which may affect our ability to develop the market in Asia and deploy SureSource power plants,

 

our ability to implement our strategy,

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our ability to reduce our levelized cost of energy and cost reduction strategy generally,

 

our ability to protect our intellectual property,

 

the risk that commercialization of our products will not occur when anticipated,

 

our ability to generate positive cash flow from operations,

 

our ability to service our long-term debt,

 

our ability to increase the output and longevity of our power plants, and

 

our ability to expand our customer base and maintain relationships with our largest customers and strategic business allies.

We cannot assure you that:

 

we will be able to meet any of our development or commercialization schedules,

 

any of our new products or technology, once developed, will be commercially successful,

 

our existing SureSource power plants will remain commercially successful,

 

the government will appropriate the funds anticipated by us under our government contracts,

 

the government will not exercise its right to terminate any or all of our government contracts, or

 

we 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. Except for ongoing obligations to disclose material information under the federal securities laws, we expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any such statement to reflect any change in our expectations or any change in events, conditions or circumstances on which any such statement is based.

Background

Information contained in this report concerning the electric power supply industry and the distributed generation market, our general expectations concerning this industry and this market, and our position within this industry are based on market research, industry publications, other publicly available information and assumptions made by us based on this information and our knowledge of this industry and this market, which we believe to be reasonable.  Although we believe that the market research, industry publications and other publicly available information, including the sources that we cite in this report, are reliable, they have not been independently verified by us and, accordingly, we cannot assure you that such information is accurate in all material respects.  Our estimates, particularly as they relate to our general expectations concerning the electric power supply industry and the distributed generation market, involve risks and uncertainties and are subject to change based on various factors, including those discussed under Item 1A - Risk Factors of this report.

As used in this report, all degrees refer to Fahrenheit (“F”); kilowatt (“kW”) and megawatt (“MW”) numbers designate nominal or rated capacity of the referenced power plant; “efficiency” or “electrical efficiency” means the ratio of the electrical energy generated in the conversion of a fuel to the total energy contained in the fuel (lower heating value, the standard for power plant generation, assumes the water in the product is in vapor form; as opposed to higher heating value, which assumes the water in the product is in liquid form, net of parasitic load); kW means 1,000 watts; MW means 1,000,000 watts; “kilowatt hour” (“kWh”) is equal to 1kW of power supplied to or taken from an electric circuit steadily for one hour; and one British Thermal Unit (“Btu”) is equal to the amount of heat necessary to raise one pound of pure water from 59oF to 60oF at a specified constant pressure.

All dollar amounts are in U.S. dollars unless otherwise noted.

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Additional Technical Terms and Definitions

Advanced Technologies - Advanced Technologies projects involve the development of new products or applications based on existing carbonate technology or new electrochemical technologies.  Examples are carbon capture, distributed hydrogen, solid oxide fuel cells and solid oxide electrolysis cell technologies.  Advanced Technologies projects are typically externally funded by government or private sources and executed by our Advanced Technologies Group.

Availability - A measure of the amount of time a system is available to operate, as a fraction of total calendar time.  For power generation equipment, an industry standard (IEEE (The Institute of Electrical and Electronics Engineers) 762, “Definitions for Use in Reporting Electric Generating Unit Reliability, Availability and Productivity”) is used to compute availability. “Availability percentage” is calculated as total period hours since Commercial Operations Date less hours not producing electricity due to planned and unplanned maintenance divided by total period hours. Grid disturbances, force majeure events and site specific issues such as a lack of available fuel supply or customer infrastructure repair do not penalize the calculation of availability according to this standard.

Carbonate Fuel Cell (“CFC”) - Carbonate fuel cells, such as the fuel cell power plants produced and sold by FuelCell Energy, are high-temperature fuel cells that use an electrolyte composed of a carbonate salt mixture suspended in a porous, chemically inert ceramic-based matrix. CFCs operate at high temperatures, enabling the use of a nickel-based catalyst, a lower cost alternative to precious metal catalysts used in some other fuel cell technologies.

Combined Heat & Power (“CHP”) - A power plant configuration or mode of operation featuring simultaneous on-site generation from the same unit of fuel of both electricity and heat with the heat used to produce steam, hot water or heated air for both heating and cooling applications.

Commercial Operations Date (“COD”) - The date that testing and commissioning of a fuel cell project is completed and the fuel cell power plant is operational with power being generated and sold to the end-user.

Distributed Generation - Electric power that is generated where it is needed (distributed throughout the power grid) rather than from a central location. Centrally generated power requires extensive transmission networks that require maintenance and experience efficiency losses during transmission while distributed generation does not.  Distributed generation is small to mid-size power plants, typically generating 75 MW or less.  Central generation is large power plants generating hundreds or even thousands of MW.

Micro-grids - Micro-grids are localized electric grids that can disconnect from the traditional electric grid to operate autonomously and strengthen grid resiliency.  Micro-grids can be composed only of SureSource power plants due to their continual power output or combine a variety of power generation types such as fuel cells and solar arrays.

Nitrogen Oxides (“NOx”) - Generic term for a group of highly reactive gases, all of which contain nitrogen and oxygen in varying amounts. Many of the NOx are colorless and odorless; however, they are a major precursor to smog production and acid rain. One common pollutant, Nitrogen Dioxide, along with particles in the air, can often be seen as a reddish-brown layer over many urban areas. NOx form when fuel is burned at high temperatures, as in a combustion process. The primary manmade sources of NOx are motor vehicles, traditional fossil-fuel fired electric utility generation, and other industrial, commercial and residential sources that burn fuels.

Particulate Matter (“PM”) - Solid or liquid particles emitted into the air that are generally caused by the combustion of materials or dust generating activities. Particulate matter caused by combustion can be harmful to humans as the fine particles of chemicals, acids and metals may get lodged in lung tissue.

Power Purchase Agreement (“PPA”) - A Power Purchase Agreement is a contract that enables a power user to purchase energy under a long-term contract where the user agrees to pay a predetermined rate for the kilowatt-hours delivered from a power generating asset while avoiding the need to own the equipment and pay the upfront capital cost.  The PPA rate is typically fixed (with an escalation clause tied to a consumer price index or similar index), or pegged to a floating index that is on par with or below the current electricity rate being charged by the local utility company for a term of 10 to 20 years.

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Renewable Biogas - Renewable biogas is fuel produced by biological breakdown of organic material.  Biogas is commonly produced in biomass digesters employing bacteria in a heated and controlled oxygen environment.  These digesters are typically used at wastewater treatment facilities or food processors to break down solid waste and the biogas produced is a byproduct of the waste digestion. Biogas can be used as a renewable fuel source for SureSource fuel cell plants located on site where the biogas is produced with gas cleanup, or it can be processed further to meet pipeline fuel standards and injected into a gas pipeline network, which is termed Directed Biogas.

Solid Oxide Electrolysis Cell (“SOEC”) - Solid Oxide Electrolysis Cells are electrochemical cells with the same cell and stack structure as Solid Oxide Fuel Cells, but are operated in reverse – instead of producing power from fuel and oxygen, SOEC cells produce hydrogen and oxygen from steam when supplied with power.  The Solid Oxide Fuel Cell platform can be operated in fuel cell mode (producing power from fuel) or electrolysis mode (producing hydrogen from power) and can alternate between the two.

Solid Oxide Fuel Cell (“SOFC”) - Solid Oxide Fuel Cells are electrochemical cells with a non-porous ceramic material as the electrolyte. SOFCs operate at high temperatures (slightly higher than carbonate) eliminating the need for costly precious-metal catalysts, thereby reducing cost. Like carbonate, the high operating temperature enables internal reforming of the hydrogen rich fuel source.

Sulfur Oxide (“SOx”) - Sulfur oxide refers to any one of the following: sulfur monoxide, sulfur dioxide (“SO2”) and sulfur trioxide. SO2 is a byproduct of various industrial processes. Coal and petroleum contain sulfur compounds, and generate SO2 when burned.  SOx compounds are particulate and acid rain precursors.

Overview

We deliver proprietary fuel cell power solutions for the clean and affordable supply, recovery and storage of energy.  We serve utilities and industry and municipal power users on three continents with megawatt-class scalable solutions that include utility-scale and on-site power generation, carbon capture, local hydrogen production for transportation and industry, and energy storage.  With more than 7.0 million megawatt hours of ultra-clean power produced, FuelCell Energy is a global leader in designing, manufacturing, installing, operating and maintaining environmentally responsible fuel cell power solutions.

We provide comprehensive turn-key power generation solutions to our customers, including power plant installation, operations and maintenance under multi-year service agreements. We develop projects and also sell direct to customers, providing either a complete solution of developing, installing and servicing the fuel cell power plant, or selling the power plant equipment only.  For projects that we develop, the end user of the power typically enters into a PPA and we either identify a project investor to purchase the power plant and assume the PPA, or we retain the project and recognize electricity revenue ratably over the term of the PPA.  We target large-scale power users with our megawatt-class installations.  To provide a frame of reference, one megawatt is adequate to continually power approximately 1,000 average sized U.S. homes.  Our customer base includes utility companies, municipalities, universities, government entities and a variety of industrial and commercial enterprises. Our leading geographic markets are the United States and South Korea.  We are pursuing expanding opportunities in other countries.

Our value proposition is to enable economic value with clean and affordable fuel cell power plants that supply power where consumed. Our products can also be configured for recovery and storage applications. Our solutions are easy-to-site in populated areas as they are clean, operate quietly and without vibrations, and have only modest space requirements.  Fuel cells use an electrochemical process to convert a fuel source into electricity and heat in a highly efficient process that emits virtually no pollutants as the fuel is not burned, generating power that is almost wholly absent of criteria pollutants such as NOx that causes smog, SOx that contributes to acid rain, and particulate matter that can aggravate asthma.  Locating power generation near the point of use reduces reliance on the transmission grid, leading to enhanced energy security and power reliability.  Utilities can minimize or even avoid the cost of transmission or other infrastructure by adopting distributed generation, which saves their customers the cost of installing and maintaining transmission and also avoids the losses associated with transmitting electricity over great distances.  Our power plants provide electricity priced competitively to grid-delivered electricity in certain high cost regions and our strategy is to continue to reduce costs, which we believe will lead to wider adoption.

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FuelCell Energy was founded as a Connecticut corporation in 1969 as an applied research organization, providing contract research and development.  The Company went public in 1992 and reincorporated in Delaware in 1999.  We began selling stationary fuel cell power plants commercially in 2003.  Today, we develop turn-key distributed power generation solutions, operating and providing comprehensive service for the life of the asset.

Business Strategy

Our business model is to address power generation challenges with versatile, efficient and economical fuel cell solutions.  We are leveraging our common core fuel cell technology and products to target global markets including on-site and utility-scale projects for the supply, recovery and storage of energy.  We selectively utilize strategic business alliances and collaboration agreements for market development, financing and cost reductions.  Our extensive intellectual property portfolio consists of patents, trade secrets and collective experience, which acts as a foundation for expanding and maximizing our solutions portfolio.  Our business model is based on multiple revenue streams, including power plant and component sales; engineering, procurement and construction (“EPC”) revenue; royalty and license revenue; recurring service revenue, including long term service agreements; recurring electricity sales under PPAs and tariffs for projects we retain in our generation portfolio; and revenue from public and private industry research contracts under Advanced Technologies.  

 

Market adoption

We target vertical markets and geographic regions that value clean distributed generation, are located where there are high energy costs, and are aligned with regulatory frameworks that harmonize energy, economic and environmental policies.  Our business model addresses all three of these policy areas with highly efficient and affordable distributed generation that delivers de-centralized power in a low-carbon, virtually pollutant-free manner. Geographic markets that meet these criteria and where we are already well established include South Korea, the Northeast U.S. and California.  We have also installed and are operating plants in the United Kingdom, Germany, and Switzerland, have contracts and awards to install and operate plants in New York, and are pursuing further opportunities in Western Europe and certain other states in the United States as well as certain countries in Asia. We selectively develop strategic business relationships with some of the leading energy and power generation companies in our target markets to facilitate demand and deploy our projects.

While the Company has made significant progress with reducing costs and creating markets since the commercialization of our products in 2003, we face two primary challenges in growing the adoption of our distributed power generation solutions, which are (1) the need to further reduce the total cost of ownership, and (2) the continued education and acknowledgment of the value that our solutions provide.  The business model for the generation and delivery of electricity for over a century has been central generation, which is large scale power generation in distant locations away from urban areas with transmission and distribution to the end users.  Distributed generation enhances existing utility models and it is being embraced in an increasing number of markets to improve grid operations.  

We work with utilities and power generators to demonstrate how our solutions complement central generation by incrementally adding clean power generation when and where needed.  One example of this is a 40 megawatt fuel-cell only program by Long Island Power Authority (“LIPA”) to address load pockets or power needs in specific areas of its service territory.  LIPA operates in an area with high population density, scarce and expensive land, the need for resiliency to ensure power during storms, and vocal citizens that may not welcome new transmission lines in their neighborhoods.  The structure of the program reflected the unique value drivers of fuel cells to cleanly, efficiently and economically supply power where it is needed, which for LIPA is near existing electrical substations.  LIPA awarded the entire 40 MW program to FuelCell Energy through a competitive bidding process after a review of more than 375 MW of proposals from multiple developers.  

Fuel cell power plant ownership structures

In the United States, historically, customers generally purchased our fuel cell power plants outright.  As the size of our fuel cell projects has grown and availability of project capital improved, project structures have transitioned to predominantly PPAs.  Under a PPA, the end-user of the power commits to purchase power as it is produced for an

8


 

extended period of time, typically 10 to 20 years.  End-users may be a university, pharmaceutical company, hospital or utility.  A primary advantage for the end-user is that it does not need to commit its own capital to own a power generating asset, yet it enjoys the multiple benefits of fuel cell power generation.

Once the PPA is executed, construction of the fuel cell project can begin.  At or around the COD, the project may be sold to a project investor or retained by the Company.  If the project is sold, revenue from the product sale is recognized.  If the project is retained, electricity sales are recognized monthly over the term of the PPA.

Our business model is continuing to evolve to meet the needs and opportunities of the market and to best situate ourselves for success.  In 2016, we began to retain ownership of certain projects through sale-leasebacks and retaining the related PPAs, thus keeping them on our balance sheet instead of selling them to an end-user customer, investor, or utility.  Our decision to retain certain projects is based in part on the strong cash flows these projects can offer to us, the proliferation of power purchase agreements in the industry and the potential access to capital.  Retaining PPAs affords the Company with the full benefit of future cash flows under the PPAs, which is higher than if we sell the projects.  As of October 31, 2017, our operating portfolio of retained projects totaled 11.2 MW with an additional 19.5 MW under construction.  The Company plans to continue to grow this portfolio in a balanced manner while also selling projects to investors when that presents the best opportunity.

 

Levelized Cost of Energy

Our fuel cell projects deliver power at a rate comparable to pricing from the grid in our targeted markets.  Policy programs that help to support adoption of clean distributed power generation lead to below-grid pricing.  We measure power costs by calculating the Levelized Cost of Energy (“LCOE”) over the life of the project.  

We innovate, design and own our proprietary fuel cell technology.  We develop and execute comprehensive fuel cell turn-key projects or sell direct.  We manufacture and install the fuel cell power plants and we then operate and maintain the plants for our customers under long term service agreements, or selectively retain projects in our generation portfolio. Given this level of integration, there are multiple areas and opportunities for cost reductions.  There are several primary elements to LCOE for our fuel cell projects, including (1) Capital Cost, (2) Operations and Maintenance, (3) Fuel, and (4) Cost of Capital.  We are actively managing and reducing costs in all four areas as follows:

Capital Cost - Capital costs of our projects include cost to manufacture, install, interconnect, and any on-site application requirements such as configuring for a micro-grid and/or heating and cooling applications.  We have reduced the product cost of our megawatt-class power plants by more than 60% from the first commercial installation in 2003 through our ongoing product cost reduction program, which involves every aspect of our business including engineering, procurement and manufacturing.  Further cost reductions will be primarily obtained from higher production volumes which will lead to reductions in the per-unit cost of materials purchased, supported by continued actions with engineering and manufacturing cost reductions.  On-site, our experienced EPC team has substantial experience in working with contractors and local utilities to safely and efficiently execute our projects and we expect continued cost reduction in this area with experience and continued transition to multi-MW fuel cell parks. Larger projects offer scale and the opportunity to consolidate systems and reduce costs. In addition to these cost reduction efforts, our technology roadmap includes plans to increase the output of our power plants which will add further value for our customers and reduce LCOE.  

Operations and Maintenance - We remotely monitor, operate, and maintain the fuel cell power plants to optimize performance and meet or exceed expected operating parameters throughout the plant’s operational life. Operations and maintenance (“O&M”) is a key driver for power plants to deliver on projected electrical output and revenue.  Many of our service agreements include guarantees for system performance levels, including electrical output. Customers benefit from predictable savings and financial returns over the life of the contract, while minimizing risk.  While the electrical and mechanical balance of plant (“BOP”) in our power plants is designed to last 25 years, the fuel cell modules are currently scheduled for replacement every five years, the price of which is included in our service agreements.  We expect to continually drive down the cost of O&M with an expanding fleet which will leverage our investments in this area.  Additionally, we have completed the development of fuel cells that have a longer life, which will reduce O&M costs by increasing our scheduled module replacement period to seven years.

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Fuel - Our fuel cells directly convert chemical energy (fuel) into electricity, heat, water, and in certain configurations, other value streams such as high purity hydrogen.  Because fuel cells generate power electrochemically rather than by combusting (burning) fuels, they are more efficient in extracting energy from fuels and produce less carbon dioxide (“CO2”) and only trace levels of pollutants compared to combustion-type power generation.  Our power plants can operate on a variety of existing and readily available fuels, including natural gas, renewable biogas, directed biogas and propane. Our core SureSource power plants deliver electrical efficiencies of 47%, and in 2017, the Company introduced a power plant which operates at 60% efficiency targeted at electric-only applications such as grid support and data centers.  In a CHP configuration, our plants can deliver even higher system efficiency, depending on the application. Increasing electrical efficiency and reducing fuel costs is a key element of our operating cost reduction efforts.

Cost of Capital - Most of our MW-scale projects are financed either by the energy user/off-taker that owns the asset or a project investor that owns the asset and sells energy to the off-taker.  We have responded to an evolving market with greater interest in the pay-as-you-go PPA approach by end users of the power that prefer to avoid the up-front investment in power generation assets.  Our projects create predictable recurring revenue that is not dependent on weather or time of the day, investment tax credits, accelerated tax depreciation or other incentives. Credit risk is mitigated by contracting with customers with strong credit. In addition, we offer meaningful system-level output performance guarantees over the life of our projects. As a result, cost of capital for our projects has declined over time, partially due to our operating experience.  With continued execution, we expect to continue to attract project finance capital, and with financial and project performance credibility continuing to improve, we expect continued reductions in risk premiums leading to lower financing costs.

An additional factor that benefits fuel cells when comparing LCOE to other forms of power generation is that our solutions provide delivered electricity that minimizes or even avoids the costs of transmission.

Our distributed generation solutions minimize or entirely avoid the need for transmission.  When comparing LCOE across different forms of power generation, transmission needs to be considered in the evaluation.  Power generation far from where the power is used requires transmission, which is a cost to ratepayers and is inefficient due to line losses of power in the transmission process.

We believe that our strong business model and strategy, demonstrated project development execution, plant operating performance, and strategic relationships will support accelerated adoption of our fuel cell solutions.

Markets

Vertical Markets

Access to clean, affordable and reliable power defines modern lifestyles.  The ability to provide power cleanly and efficiently is taking on greater importance and urgency in many regions of the world.  Central generation and its associated transmission and distribution grid are difficult to site, costly, and generally take many years to permit and build.  Some types of power generation that were widely adopted in the past, such as nuclear power, are no longer welcome in certain regions.  The cost and impact to public health and the environment of pollutants and greenhouse gas emissions impact the siting of new power generation.  The attributes of SureSource power plants address these challenges by providing virtually particulate emission-free power and heat at the point of use in a highly efficient process that is affordable to consumers.

Our solutions are installed on both sides of the electric meter, meaning that we serve on-site markets supplying power directly to the end user, as well as utility-scale projects that supply the power to the electric grid.  We target seven distinct markets including:

 

(1)

Utilities and Independent Power Producers,

 

(2)

Industrial and Process applications,

 

(3)

Education and Health care,  

 

(4)

Data Centers and Communication,

 

(5)

Wastewater treatment,

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(6)

Government, and

 

(7)

Commercial and Hospitality.

The Utilities and Independent Power Producers segment is our largest vertical market with customers that include utilities on the East and West coast of the United States such as Dominion (NYSE: D), one of the largest utilities in the United States: Avangrid Holdings (NYSE: AGR), Long Island Power & Light and NRG Energy (NYSE: NRG), one of the largest Independent Power Producers (“IPP”) in the United States.  Our carbon capture demonstration installation will be located at a power plant owned by a subsidiary of Southern Company (NYSE: SO).  In Europe, utility customers include E.ON Connecting Energies (DAX: EOAN), one of the largest utilities in the world, and Switzerland-based ewz.  The greatest number of installed fuel cell plants is in South Korea, primarily supplying that nation's electric grid, with the fuel cells' heat typically used in district heating systems to heat and cool nearby facilities. Our technology licensee in South Korea is POSCO Energy Co., Ltd. (“POSCO Energy”), a subsidiary of South Korean-based POSCO (NYSE: PKX), one of the world's largest steel manufacturers.

Our SureSource power plants are producing power for a variety of industrial, commercial, municipal and government customers, including manufacturing facilities, pharmaceutical processing facilities, universities, healthcare facilities and wastewater treatment facilities.  These institutions desire efficient, ultra-clean continuous power to reduce operating expenses, reduce greenhouse gas emissions and avoid pollutant emissions to meet their sustainability goals, while achieving secure and reliable on-site power.  Combined heat and power fuel cell applications further support economic and sustainability initiatives by minimizing or avoiding use of combustion based boilers for heat.

Our products are fuel flexible, utilizing clean natural gas and renewable biogas generated by the customer on-site or directed biogas generated at a distant location and transported via the existing gas network.  In addition, we have demonstrated other fuel sources including coal syngas and propane.

As renewable technologies such as wind and solar power are deployed more widely, the need for a clean, continuous power generation that complements and balances these intermittent sources becomes greater to maintain grid stability and consistent power supply for on-site applications.  Our installed base includes a number of locations where our customers use SureSource plants for meeting power needs that complements intermittent wind and/or solar power generation.

Our fuel cell solutions are well suited for micro-grid applications, either as the sole source of power, or integrated with other forms of power generation.  We can model, install and operate the micro-grid, which is a differentiator in the power industry.  We have fuel cells operating as micro-grids at universities and municipalities, including one university micro-grid owned by a wholly owned subsidiary of NRG Yield (NYSE:  NYLD) and a town-based micro-grid owned by Avangrid.  Under normal operation, the fuel cells supply power to the grid.  If the grid is disrupted, the fuel cell plant will automatically disconnect from the grid and power a number of critical buildings.

Wastewater treatment facilities, food and beverage processors, and agricultural operations produce biogas as a byproduct of their operations. Disposing of this greenhouse gas can be harmful to the environment if released into the atmosphere or flared. Our SureSource power plants convert this biogas into electricity and heat efficiently and economically. Wastewater facilities with anaerobic digesters are an attractive market for our SureSource solution including the power plant as well as treatment of the biogas. Since our fuel cells operate on the renewable biogas produced by the wastewater treatment process and the heat is used to support daily operations at the wastewater treatment facility, the overall thermal efficiency of these installations is high, supporting economics and sustainability.

We estimate that the addressable distributed generation market and geographies in which we compete for the supply of energy, including distributed hydrogen production, is approximately a $22 billion opportunity, with approximately 40-45% consisting of power plant sales and the remainder representing associated service agreements.  We estimate that the addressable market for the recovery of energy, including our fuel cell carbon capture solution and our gas pipeline application, is approximately $28 billion, assuming only a 1% penetration rate of addressable coal and gas-fired central generation power plant facilities within the geographies where we do business, and only 25% carbon capture at these coal or gas-fired plants.  We believe there are additional market opportunities for capture from

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industrial thermal sources, such as boilers, in industries like steel and cement production.  The addressable energy storage market is still developing as different technologies are beginning to come to market with different approaches to storage and different storage durations.  We estimate that the addressable market for long duration storage may be in the range of tens of billions of dollars.

Strategic Alliances

We leverage our core capabilities by forging strategic alliances with carefully selected third parties that bring power generation experience, financial resources, and market access. Our strategic allies typically have extensive experience in developing and selling power generation products. We believe our strength in the development of fuel cell products, coupled with our strategic allies’ understanding of a broad range of markets and customers, products and services, enhances the sales and development of our products, as well as provides endorsement of our power generation solutions. Our global business alliances include:

NRG Energy:  NRG Energy (“NRG”) owns approximately 1.4 million shares of our common stock (or approximately 2% of our outstanding common stock), extends a $40.0 million revolving construction and term financing facility to FuelCell Energy Finance, LLC ("FuelCell Finance"), our wholly-owned subsidiary, and is represented on the FuelCell Energy Board of Directors by the CEO of NRG Yield (NYSE: NYLD).  NRG is one of the largest IPPs in the U.S. with approximately 50,000 MW of generation capacity and almost three million retail and commercial customers.

POSCO Energy: We entered into manufacturing and technology transfer agreements in 2007, 2009 and 2012 with POSCO Energy, which provide POSCO Energy with the technology rights to manufacture SureSource power plants in South Korea and the right to sell power plants throughout Asia.    POSCO Energy owns 2.6 million shares of our common stock (or approximately 4% of our outstanding shares of common stock).  POSCO Energy is one of the largest IPPs in South Korea.

In March 2017, we entered into a memorandum of understanding (“2017 MOU”) with POSCO Energy to permit us to directly develop the Asian fuel cell business, including the right for us to sell SureSource solutions in South Korea and the broader Asian market. We and POSCO Energy also agreed to undertake to amend certain technology transfer and other agreements by a target date of September 30, 2017 to reflect our new relationship.  Although these agreements have not yet been amended, we continue to engage in discussions with POSCO Energy regarding our relationship and the direction of the fuel cell business in the South Korean and Asian markets.

Pursuant to the 2017 MOU, we have commenced marketing the entire suite of SureSource solutions in South Korea. In June 2017, an EPC contractor was awarded a 20 megawatt project utilizing our SureSource technology by a Korean utility after a competitive bidding process. On August 29, 2017, we entered into a definitive agreement for this 20 MW project with the EPC contractor, Hanyang Industrial Development Co., Ltd (“HYD”), pursuant to which we provided equipment to HYD for the fuel cell project with Korea Southern Power Co., Ltd. (“KOSPO”).  The SureSource 3000TM power plants will cleanly produce electricity and thermal energy to supply the electric grid and support a district heating system.  Construction began in 2017 and the installation is expected to be operational in 2018.  The value of the equipment sale contract to the Company is in excess of $60 million.

In accordance with the 2017 MOU, we are collaborating with POSCO Energy to pursue investor opportunities in the Korean fuel cell business to further develop and advance the Korean market for fuel cells.

E.ON Connecting Energies GmbH:  E.ON Connecting Energies (“E.ON”) specializes in integrated energy solutions for industrial, commercial and public sector customers.  E.ON has purchased two SureSource fuel cell power plants to serve E.ON end user customers. The first sale announced was a CHP-configured megawatt-class fuel cell plant installation at a German manufacturing company and the second sale was a CHP-configured fuel cell power plant for a German hotel owned by an international hotel chain.

ExxonMobil:  We entered into a joint development agreement in 2016 with ExxonMobil for advancing fuel cell carbon capture with applications for gas-fired power stations.  ExxonMobil is supporting a demonstration fuel cell carbon capture plant to be installed at the Plant Barry power station, owned by an affiliate of Southern Company.  

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Products

Our core fuel cell products offer ultra-clean, highly efficient power generation for customers, including the 1.4 MW SureSource 1500TM, the 2.8 MW SureSource 3000TM, and the recently introduced 3.7 MW SureSource 4000TM.  The plants are scalable for multi-megawatt utility scale applications or on-site CHP generation for a broad range of applications.  We provide a comprehensive and complete turn-key fuel cell project that includes project development, EPC services, O&M, and project finance.

Our proprietary carbonate fuel cell technology generates electricity directly from a fuel, such as natural gas or renewable biogas, by reforming the fuel inside the fuel cell to produce hydrogen. This internal “one-step” reforming process results in a simpler, more efficient, and cost-effective energy conversion system compared with external reforming fuel cells.  Additionally, natural gas has an established infrastructure and is readily available in our existing and target markets compared to some types of fuel cells that require high purity hydrogen. The fuel cells operate at approximately 1,100° F. An advantage of high temperature fuel cells is that they do not require the use of precious metal electrodes required by lower temperature fuel cells, such as proton-exchange membrane (“PEM”) fuel cells.  As a result, we are able to use less expensive and readily available industrial metals as catalysts for our fuel cell components.  

The SureSource product line is a global platform based on carbonate fuel cell technology.  Using a standard design globally enables volume-based cost reduction and optimal resource utilization.  Our power plants utilize a variety of available fuels to produce electricity electrochemically, in a process that is highly efficient, quiet, and due to the avoidance of combustion, produces virtually no particulate pollutants. Thus, our plants generate more power and fewer emissions for a given unit of fuel than combustion-based power generation of a similar size, making them economical and environmentally responsible power generation solutions.  In addition to electricity, our standard configuration produces high quality heat (approximately 700° F), suitable for heating facilities or water, or steam for industrial processes or absorption cooling.  Our system’s efficiencies can reach up to 90%, depending on the application, when configured for CHP.

We market different configurations of the SureSource plants to meet specific market needs for the supply, recovery and storage of energy, including:

Energy Supply

 

On-Site Power (Behind the Meter):  Customers benefit from improved power reliability and energy security from on-site power that reduces reliance on the electric grid.  Utilization of the high quality heat produced by the fuel cell in a CHP configuration supports economics and sustainability goals by lessening or even avoiding the need for combustion-based boilers for heat and its associated cost, pollutants and carbon emissions.  On-site CHP power projects generally range in size from an individual SureSource 1500 to combining multiple SureSource 3000 or SureSource 4000 power plants for larger on-site projects.  For example, an installation at a pharmaceutical company uses two SureSource 3000 power plants for 5.6 MW of power and heat production while an installation currently contracted for a U.S. Navy base will use two SureSource 4000 power plants for 7.4 MW of power.

 

Utility Grid Support: The SureSource power plants are scalable, which enables siting multiple fuel cell power plants together in a fuel cell park.  Fuel cell parks enable utilities to add clean and continuous multi-megawatt power generation when and where needed and enhance the resiliency of the electric grid by reducing reliance on large central generation plants and the associated transmission grid.  Consolidating certain steps for multiple plants, such as fuel processing, reduces the cost per megawatt hour for fuel cell parks compared to individual fuel cell power plants.  Fuel cell park examples include a five plant, 14.9 MW fuel cell park in Bridgeport, Connecticut that is supplying the electric grid, and multiple fuel cell parks in South Korea in excess of 10 MW each that supply power to the electric grid and high quality heat to district heating systems, such as a 59 MW installation which consists of 21 power plants, the world’s largest fuel cell park.  By producing power near the point of use, our fuel cells help to ease congestion of the electric grid and can also enable the smart grid via distributed generation combined with continuous monitoring and operation by our service organization. Thus, our solutions can avoid or reduce investment in new central generation and transmission infrastructure which is

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costly, difficult to site and expensive to maintain. Deploying our SureSource power plants throughout a utility service territory can also help utilities comply with government-mandated clean energy regulations and meet air quality standards.  Our products can be part of a total on-site power generation solution with our high efficiency products providing continuous power, and can be combined with intermittent power generation, such as solar or wind, or less efficient combustion-based equipment that provides peaking or load following power.

 

Higher Electrical Efficiency - Multi-megawatt applications:  The SureSource 4000 is designed to extract more electrical power from each unit of fuel with electrical efficiency of approximately 60% and targets applications with large load requirements and limited waste heat utilization such as utility/grid support or data centers.  This 3.7 megawatt plant is configured with a series of three fuel cell modules that operate in sequence, yielding a higher electrical efficiency than the standard SureSource 3000 configuration of two fuel cell modules operating in parallel.  The heat energy and unused hydrogen from two fuel cell modules is supplied to the third module, enhancing overall electrical efficiency.  

 

Distributed Hydrogen:  The SureSource fuel cells internally reform the fuel source (i.e. natural gas or biogas) to obtain hydrogen.  The SureSource plants can be configured for tri-generation, supplying power, heat and high purity hydrogen.  Power output is modestly reduced to support hydrogen generation, which can then be used for industrial applications such as metal or glass processing, or petrochemical, or transportation applications.  Siting the tri-generation fuel cell plant at a source of biogas, such as a wastewater treatment facility, enables the generation of renewable hydrogen for transportation, an attractive proposition to regulatory and legislative officials and auto companies. We have announced the first commercial MW-scale application of this product configuration at the Port of Long Beach, California which will support Toyota’s logistical support facility.

 

Micro-grid: The SureSource plants can also be configured as a micro-grid, either independently or with other forms of power generation.  We possess the capabilities to model, design and operate the micro grid and have multiple examples of our solutions operating within micro-grids, some individually and some with other forms of power generation.

Energy Recovery

 

Gas Pipeline Applications:  SureSource RecoveryTM power plants are used in natural gas pipeline applications, harnessing energy that is otherwise lost during the natural gas pressure-reduction (“letdown”) process. Also, thermal energy produced as a byproduct of the fuel cell’s operation supports the letdown process, improving the letdown station’s carbon footprint and enhancing the project’s economics. Depending on the specific gas flows and application, the SureSource Recovery configuration is capable of achieving electrical efficiencies of up to 70%.  A 3.4 megawatt system is owned by a subsidiary of Avangrid and operating at a gas letdown station owned by its regulated gas utility subsidiary.

 

Carbon Capture:  The SureSource CaptureTM system separates CO2 from the flue gases of natural gas or coal-fired power plants or industrial facilities while producing ultra-clean power. Exhaust flue gas from the coal/gas plant is supplied to the cathode side of the fuel cell, instead of ambient air.  The CO2 in the exhaust is transferred to the anode side of the fuel cell, where it is much more concentrated and easy to separate.  The CO2 from the anode exhaust stream is liquefied using common chilling equipment.  The purified CO2 is then available for enhanced oil recovery, industrial applications or sequestration.  Carbon concentration and capture within the carbonate fuel cell is a side reaction of the natural gas-fueled power generation process.  Carbon capture systems can be implemented in increments, starting with as little as 5% capture with no appreciable change in the cost of power and with minimum capital outlay.  Our solution generates a return on capital resulting from the fuel cell's production of electricity rather than an increase in operating expense required by other carbon capture technologies, and can extend the life of existing coal-fired power plants, enabling low carbon utilization of domestic coal and gas resources.  During 2018, we will be installing the first carbon capture configured SureSource 3000 power plant, which will be located at a mixed coal/gas fired power station owned by a subsidiary of Southern Company.  The project is partially funded by the U.S. Department of Energy and ExxonMobil is also participating in portions of the project.

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Energy Storage

We are developing our long-duration SureSource StorageTM solution, creating a system that utilizes both SOFC and SOEC technology and using hydrogen as the energy storage medium.  Our solid oxide stacks are capable of alternating between electrolysis and power generation mode.  Instead of producing power from fuel and air, a solid oxide fuel cell stack in electrolysis mode splits water into hydrogen and oxygen using supplied electricity.  Hydrogen is an energy carrier that can be compressed and stored for long durations in storage tubes or underground.  

This allows us to configure efficient and cost effective energy storage solutions where hydrogen is produced from electricity in electrolysis mode and stored until power is needed, at which point the stored hydrogen is used in the same stacks to produce electricity.  Storage capacity is easily expanded by adding additional storage tanks, a low cost approach for storage applications requiring many hours or days of storage capacity.  The need for long duration energy storage behind the meter and on the utility grid will increase as the penetration of intermittent renewable sources on the grid expands.  This solution can be sited adjacent to an electric substation, avoiding the need for transmission.

In summary, our solutions offer many advantages:

 

Distributed generation: Generating power near the point of use improves power reliability and energy security and lessens the need for costly and difficult-to-site generation and transmission infrastructure, enhancing the resiliency of the grid.

 

Ultra-clean: Our SureSource solutions produce electricity electrochemically − without combustion − directly from readily available fuels such as natural gas and renewable biogas in a highly efficient process. The virtual absence of pollutants facilitates siting the power plants in regions with clean air permitting regulations and is an important public health benefit.

 

High efficiency: Fuel cells are the most efficient power generation option in their size class, providing the most power from a given unit of fuel, reducing fuel costs. This high electrical efficiency also reduces carbon emissions compared to less efficient combustion-based power generation.

 

Combined heat and power: Our power plants provide both electricity and usable high quality heat/steam from the same unit of fuel.  The heat can be used for facility heating and cooling or further enhancing the electrical efficiency of the power plant in a combined cycle configuration. When used in CHP configurations, system efficiencies can potentially reach up to 90%, depending on the application.

 

Reliability / continuous operation: Our SureSource power plants improve power reliability and energy security by lessening reliance on transmission and distribution infrastructure of the electric grid. Unlike solar and wind power, fuel cells are able to operate continuously regardless of weather or time of day.

 

Fuel flexibility: Our SureSource power plants can operate on a variety of existing and readily available fuels, including natural gas, renewable biogas, directed biogas and propane.

 

Scalability: Our solutions are scalable, providing a cost-effective solution to adding power incrementally as demand grows, such as multi-megawatt fuel cell parks supporting the electric grid.

 

Quiet operation: Because they produce power without combustion and contain very few moving parts, our SureSource solutions operate quietly and without vibrations.

 

Easy to site: Our SureSource power plants are relatively easy to site by virtue of their ultra-clean emissions profile, modest space requirements and quiet operation.  These characteristics facilitate the installation of the power plants in urban locations with scarce and expensive land.  A 10 MW fuel cell park only requires about one acre of land whereas an equivalent size solar array requires up to seven to ten times as much land, illustrating how fuel cell parks are easy to site in high density areas with constrained land resources, and adjacent to the demand source thereby avoiding costly transmission construction.

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SureSource Emissions Profile

Fuel cells are devices that directly convert chemical energy (fuel) into electricity, heat and water.  Because fuel cells generate power electrochemically rather than by combusting (burning) fuels, they are more efficient in extracting energy from fuels, and produce less CO2 and only trace levels of pollutants compared to combustion-type power generation.  The following table illustrates the favorable emission profile of our SureSource power plants:

 

 

 

Emissions (Lbs. Per MWh)

 

 

NOX

 

 

SO2

 

 

PM

 

 

CO2

 

 

CO2

with CHP

Average U.S. Fossil Fuel Plant

 

 

5.06

 

 

 

11.6

 

 

 

0.27

 

 

 

2,031

 

 

NA

Microturbine (60 kW)

 

 

0.44

 

 

 

0.008

 

 

 

0.09

 

 

 

1,596

 

 

520 - 680

Small Natural Gas Turbine

 

 

1.15

 

 

 

0.008

 

 

 

0.08

 

 

 

1,494

 

 

520 - 680

SureSource - natural gas

 

 

0.01

 

 

 

0.0001

 

 

 

0.00002

 

 

 

940

 

 

520 - 680

SureSource 4000 High Efficiency Plant

 

 

0.01

 

 

 

0.0001

 

 

 

0.00002

 

 

 

740

 

 

520 - 680

SureSource - utility scale carbon capture

 

 

0.01

 

 

 

0.0001

 

 

 

0.00002

 

 

 

80

 

 

n/a

SureSource  - renewable biogas

 

 

0.01

 

 

 

0.0001

 

 

 

0.00002

 

 

< 0

 

 

< 0

 

For power plants operating on natural gas, higher electrical efficiency results in lower CO2, and also results in less fuel needed per kWh of electricity generated and Btu of heat produced. The high efficiency of our products results in significantly less CO2 per unit of power production compared to the average U.S. fossil fuel power plant, and the carbon emissions are reduced even further when configured for combined heat and power.  When operating on renewable biogas, government agencies and regulatory bodies generally classify our power plants as carbon neutral due to the renewable nature of the fuel source.

High electrical efficiency reduces customers' exposure to volatile fuel costs, minimizes operating costs, and provides maximum electrical output from a finite fuel source. Our power plants achieve electrical efficiencies of 47% to 60% or higher depending on configuration, location, and application, and even higher total efficiency in a CHP configuration, depending on the application.  This represents delivered efficiency as our distributed solutions generate power near the point of use, avoiding the line losses inherent in transmission.  The electric grid in the United States is only approximately 35% electrically efficient and typically does not support CHP configurations.

Manufacturing

We design and manufacture the core SureSource fuel cell components that are stacked on top of each other to build a fuel cell stack.  For MW-size power plants, four fuel cell stacks are combined to build a fuel cell module.  To complete the power plant, the fuel cell module or modules are combined with the BOP.  The mechanical BOP processes the incoming fuel such as natural gas or renewable biogas and includes various fuel handling and processing equipment such as pipes and blowers. The electrical BOP processes the power generated for use by the customer and includes electrical interface equipment such as an inverter.  The BOP components are either purchased directly from suppliers or the manufacturing is outsourced based on our designs and specifications.  This strategy allows us to leverage our manufacturing capacity, focusing on the critical aspects of the power plant where we have specialized knowledge, expertise and possess extensive intellectual property.  BOP components are shipped directly to a customer's site and are then assembled with the fuel cell module into a complete power plant.

North America: We operate a 167,000 square-foot manufacturing facility in Torrington, Connecticut where we produce the individual cell packages and assemble the fuel cell modules. The completed modules are then conditioned at our facility in Danbury, Connecticut for the final step in the manufacturing process and shipped to customer sites.  Annual capacity (module manufacturing, final assembly, testing and conditioning) is 100 MW per year, with full utilization under its current configuration.  The building is sized to accommodate annual production capacity of 200 MW per year.

The expansion of the facility was recently completed, representing the first phase of a two phase capacity expansion.  This expansion has enabled the consolidation of warehousing and service facilities, which will lead to reduced leasing expenses.  The additional space is also expected to lead to additional manufacturing efficiencies by providing the needed space to re-configure the manufacturing lines without interrupting production.  As demand

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supports, the second phase will be undertaken to add manufacturing equipment to increase annual capacity to 200 MW.  The State of Connecticut is extending two low interest long term loans to us (one for each of the two phases) and up to $10.0 million of tax credits.  Each loan is $10.0 million, with an interest rate of 2.0% and a term of 15 years.  Up to 50% of the principal is forgivable if certain job creation and retention targets are met.  We previously received the proceeds of the first $10 million loan to support the first phase of the expansion and have received an extension from the State of Connecticut to meet the required job targets.

The Torrington production facility, the Danbury corporate headquarters and research and development facility, and our Field Service Operations (which maintains the installed fleet for our plants) are ISO 9001:2015 certified, reinforcing the tenets of the FuelCell Energy Quality Management System and our core values of continual improvement and commitment to quality.

South Korea: To meet Asian demand, POSCO Energy built a cell manufacturing facility in Pohang, Korea which  became operational in late 2015. Annual production capability is 100 MW and the building is sized to accommodate up to 200 MW of annual production to support future growth in the Asian market.  We collaborate with POSCO Energy to manage the supply chain and production volumes between the U.S. and South Korean facilities.

Europe: We have a manufacturing facility in Taufkirchen, Germany that has the capability to perform final module assembly for up to 20 MW per year of sub-megawatt fuel cell power plants for the European market.  Our operations in Europe are certified under both ISO 9001:2015 and ISO 14001:2015.

Raw Materials and Supplier Relationships

We use various commercially available raw materials and components to construct a fuel cell module, including nickel and stainless steel, which are key inputs to our manufacturing process. Our fuel cell stack raw materials are sourced from multiple vendors and are not considered precious metals.  We have a global integrated supply chain that serves North American, European, and the POSCO Energy-owned Asian production facilities.  In addition to manufacturing the fuel cell module in our Torrington facility, the electrical and mechanical BOPs are assembled by and procured from several suppliers. All of our suppliers must undergo a qualification process. We continually evaluate and qualify new suppliers as we diversify our supplier base in our pursuit of lower costs and consistent quality. We purchase mechanical and electrical BOP componentry from third party vendors, based on our own proprietary designs.

Engineering, Procurement and Construction

We provide customers with complete turn-key solutions, including the development, engineering, procurement, construction, interconnection and operations for our fuel cell projects.  From an EPC standpoint, we have an extensive history of safe and timely delivery of turn-key projects.  We have developed relationships with many design firms and licensed general contractors and have a repeatable, safe, and efficient execution philosophy that has been successfully demonstrated in numerous jurisdictions, both domestically and abroad, all with an exemplary safety record.  The ability to rapidly and safely execute installations minimizes high cost construction period financing and can assist customers in certain situations when the commercial operating date is time sensitive.

Services and Warranty Agreements

We offer a comprehensive portfolio of services, including engineering, project management and installation, and long-term operating and maintenance programs, including trained technicians that remotely monitor and operate the plants around the world, 24 hours a day and 365 days a year.  We employ field technicians to service the power plants and maintain service centers near our customers to ensure high availability of our plants.  All of our customers purchase service agreements, some of which have terms of up to 20 years. Pricing for service contracts is based upon the markets in which we compete and includes all future maintenance and fuel cell module exchanges.  While the electrical and mechanical BOP in our power plants is designed to last about 25 years, the current fuel cell modules must be replaced approximately every five years.

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Under the typical provisions of our service agreements, we provide services to monitor, operate and maintain customer power plants to meet specified performance levels. Operations and maintenance is a key driver for power plants to deliver their projected revenue and cash flows.  Many of our service agreements include guarantees for system performance, including electrical output and heat rate. Should the power plant not meet the minimum performance levels, we may be required to replace the fuel cell module with a new or used replacement and/or pay performance penalties.  The service aspects of our business model provide a recurring and predictable revenue stream for the Company.  We have committed future production for scheduled fuel cell module exchanges under service agreements through the year 2038.  The pricing structure of the service agreements incorporates these scheduled fuel cell module exchanges and the committed nature of this production facilitates our production planning. Our goal is to optimize our customers’ power plants to meet expected operating parameters throughout their contracted project term.

In addition to our service agreements, we provide a warranty for our products for a specific period of time against manufacturing or performance defects. The warranty term in the U.S. is typically 15 months after shipment or 12 months after acceptance of our products.  We accrue for estimated future warranty costs based on historical experience.

Retained projects in the generation portfolio do not have service agreements with the off-takers but we maintain the power plants through long-term service agreements with our project level subsidiaries.  Under the PPAs for these retained projects, we are obligated to deliver a certain contractual level of power.  We operate and maintain the plants in our generation portfolio in a manner intended to maximize power output, just as we do for our customers who own their plants.

License Agreements and Royalty Income

We are entitled to receive license fees and royalty income from POSCO Energy related to manufacturing and technology transfer agreements entered into in 2007, 2009 and 2012.  The Cell Technology Transfer Agreement ("CTTA"), executed in October 2012, provides POSCO Energy with the technology rights to manufacture SureSource power plants in South Korea and the right to sell power plants throughout Asia.  In October 2016, the Company and POSCO Energy extended the terms of the 2007 and 2009 license agreements to be consistent with the term of the CTTA, which expires on October 31, 2027.   The term of these agreements may be extended beyond 2027 through future extensions by mutual agreement of the Company and POSCO Energy.  In conjunction with the CTTA, the Company is entitled to receive a 3.0% royalty on POSCO Energy net product sales as well as a royalty on each scheduled fuel cell module replacement under service agreements for modules that were built by POSCO Energy and installed at any plant in Asia under the terms of the Master Service Agreement between the Company and POSCO Energy.  The Company has contracted directly with POSCO Energy for equipment and services for its first direct order in the Korean market.

Advanced Technologies Programs (Third Party Funded Research and Development)

We undertake both privately-funded and public research and development to expand the markets for our power plants, reduce costs, and expand our technology portfolio in complementary high-temperature fuel cell systems. This research builds on our expertise and the versatility of our fuel cell power plants and contributes to the development of potentially new end markets for our commercial product solution portfolio. Our power plants can be configured to provide a number of value streams including clean electricity, high quality usable heat, hydrogen suitable for vehicle fueling or industrial purposes as well as configuration to concentrate CO2 from coal and natural gas fired power plants.  Our Advanced Technologies Programs are focused on commercializing solutions within three strategic areas:  (1) carbon capture for emissions reduction and power generation; (2) distributed hydrogen production, compression, and recovery; and (3) SOFC/SOEC for stationary power generation and energy storage. The revenue and associated costs from government and third party sponsored research and development is classified as “Advanced Technologies contract revenues” and “Cost of Advanced Technologies contract revenues”, respectively, in our consolidated financial statements.

We have historically worked on technology development with various U.S. government departments and agencies, including the Department of Energy (DOE), the Department of Defense (DOD), the Environmental Protection Agency (EPA), the Defense Advanced Research Projects Agency (DARPA), the Office of Naval Research (ONR),

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and the National Aeronautics and Space Administration (NASA). Government funding, principally from the DOE, provided 9%, 8% and 6% of our revenue for the fiscal years ended 2017, 2016, and 2015, respectively.

Significant commercialization programs on which we are currently working include:

Carbon Capture - Coal and natural gas are abundant, low cost resources that are widely used to generate electricity in developed and developing countries, but burning these fuels results in the emission of criteria pollutants and CO2.  Cost effective and efficient carbon capture from coal-fired and gas-fired power plants potentially represents a large global market because it could enable clean use of these fuels. Our carbonate fuel cell technology separates and concentrates CO2 as a side reaction during the power generation process. Capturing CO2 as a side reaction while generating additional valuable power is an approach that could be more cost effective than other systems which are being considered for carbon capture.

We announced an agreement with ExxonMobil (NYSE: XOM) in 2016 to pursue fuel cell carbon capture for central generation gas-fired power plants. We are working on the installation of a megawatt-class fuel cell power plant at a mixed coal/gas-fired power station owned by Alabama Power, a subsidiary of Southern Company.  This project is being supported by an award from the U.S. Department of Energy to design and build the first MW-scale carbon capture system for coal fired power, and by ExxonMobil through a joint development agreement for evaluating carbon capture from gas-fired power generation.  Successful demonstration may then lead to additional fuel cell power plant installations at this site and/or other central generation coal or gas-fired sites globally.  In addition, in 2017, we conducted two engineering studies:  one with Alberta Innovates, a consortium of Canadian oil sands producers, and one with Cenovus Energy, as lead partner of a joint industry project, to evaluate the feasibility of fuel cell carbon capture for gas-fired boilers used in oil sands processing.  These oil and gas and power producers are interested in the fuel cell carbon capture value proposition, and these studies are evaluating the application of our carbon capture system at specific sites, which could be future MW-scale carbon capture project opportunities.

Distributed Hydrogen production, compression, and recovery - On-site or distributed hydrogen generation, produced cleanly, represents an attractive market.  Our high temperature fuel cells generate electricity directly from a fuel by reforming the fuel inside the fuel cell to supply hydrogen for the electrical generation process.  Gas separation technology can be added to capture hydrogen that is not used by the electrical generation process, and we term this configuration SureSource Hydrogen. This value-added proposition may be compelling for industrial users of hydrogen and transportation applications, further summarized as follows:

Fueling Applications:  We recently announced a renewable hydrogen generation project under a hydrogen power purchase agreement with Toyota.  The multi-megawatt SureSource Hydrogen plant will be located at the Port of Long Beach, California and will use renewable directed biogas for fuel.  Toyota will purchase the hydrogen output of approximately 1,200 kg per day to fuel its fuel cell cars that arrive at the Port from overseas as well as fuel a Class 8 fuel cell truck located at the Port.  Toyota will also purchase a portion of the renewable electricity generated with the remainder of the electricity to be sold to the local utility under the California BioMAT program.  

We previously demonstrated renewable hydrogen generation under a three year project at the Orange County Wastewater Treatment Facility in Irvine, California, utilizing renewable biogas to supply hydrogen for use in fuel cell vehicle fueling and produce clean renewable electricity.  The demonstration was performed under a sub-contract to Air Products (NYSE: APD), with funding provided by the DOE, California Air Resources Board, South Coast Air Quality Management District, Orange County Sanitation District, and Southern California Gas Company.

SOFC/SOEC development and commercialization: We are working towards commercialization of solid oxide fuel cell technology to target long-duration storage applications utilizing hydrogen as an energy carrier and storage medium.  SOFC power plant design and manufacturing is complementary to our carbonate technology-based MW scale product line and affords us the opportunity to leverage our field operating history, existing expertise in power plant design, fuel processing and high volume manufacturing capabilities, and our existing installation and service infrastructure.  Additionally, the target market for storage application is electric utilities, which is a market in which we are already active.  

19


 

We perform SOFC/SOEC research and development at our Danbury facility as well as at our dedicated SOFC/SOEC facility in Calgary, Canada.  We are working under a variety of awards from the DOE for development and commercialization of both SOFC and SOEC.  We are currently installing a demonstration SOFC power plant at the NRG Energy Center in Pittsburgh, Pennsylvania.

We believe there are significant market opportunities for distributed hydrogen production, carbon capture, solid oxide fuel cell solutions and energy storage. The demonstration projects described above are steps on the commercialization road map as we leverage third-party resources and funding to accelerate the commercialization and realize the market potential for each of these solutions.

Company Funded Research and Development

In addition to research and development performed under research contracts, we also fund our own research and development projects including extending module life, increasing the power output of our modules and reducing the cost of our products.  Current initiatives include increasing the net power output of the fuel cell stacks to 375 kW from 350 kW, and extending the stack life to seven years from five-year life modules produced in fiscal 2017.  The Company’s seven-year module design will enter production in fiscal 2018. Greater power output and improved longevity are expected to lead to improved gross margin profitability on a per-unit basis for each power plant sold and improved profitability of service contracts, which will support expanding gross margins for the Company.

In addition to output and life enhancements, we designed and are now introducing the 3.7 megawatt SureSource 4000 configuration with increased electrical efficiency, and we invest in cost reduction and improving the performance, quality and serviceability of our plants. These efforts continually improve our value proposition.

Company-funded research and development is included in Research and development expenses (operating expenses) in our consolidated financial statements.  The total research and development expenditures in the consolidated statement of operations, including third party and Company-funded expenditures, are as follows:

 

 

 

Years Ended October 31,

 

 

 

2017

 

 

2016

 

 

2015

 

Cost of Advanced Technologies contract revenues

 

$

12,728

 

 

$

11,879

 

 

$

13,470

 

Research and development expenses

 

 

20,398

 

 

 

20,846

 

 

 

17,442

 

Total research and development

 

$

33,126

 

 

$

32,725

 

 

$

30,912

 

 

Backlog

 

The Company had a contract backlog totaling approximately $554.2 million as of October 31, 2017 compared to $432.3 million as of October 31, 2016. At October 31, 2017 and 2016, backlog included approximately $182.3 million and $204.8 million, respectively, of service agreements.  Service backlog as of October 31, 2017 had an average term of approximately 17 years weighted based on dollar backlog and utility service contracts up to twenty years in duration.  Generation backlog as of October 31, 2017 and 2016 was $296.3 million and $142.5 million, respectively.  As of October 31, 2017, product sales backlog totaled approximately $31.3 million compared to $24.9 million as of October 31, 2016.  As of October 31, 2017, Advanced Technologies contracts backlog totaled $44.3 million, of which $24.5 million was funded compared to $60.1 million as of October 31, 2016, of which $39.6 million was funded.

Our backlog amount outstanding is not indicative of amounts to be earned in the upcoming fiscal year.  The specific elements of backlog may vary in terms of timing and revenue recognition from less than one year to up to twenty years.  In addition, the Company may retain operating power plants on the balance sheet rather than selling them, thus creating variability in timing of revenue recognition.  Accordingly, the timing and the nature of our business makes it difficult to predict what portion of our backlog will be filled in the next fiscal year.

 

Backlog represents firm definitive agreements executed by the Company and our customers. As of October 31, 2017, we also had project awards totaling between $600.0 million and $1.0 billion, with the range based on whether the projects are sold or retained as part of our Generation portfolio.  Project awards referenced by the Company are

20


 

notifications that the Company has been selected, typically through a competitive bidding process, to enter into definitive agreements. These awards have been publicly disclosed.  Negotiations are in process and if successfully completed, project awards will become backlog. 

Fuel Cell Technologies

Fuel cell technologies are classified according to the electrolyte used by each fuel cell type. Our SureSource technology utilizes a carbonate electrolyte. Carbonate-based fuel cells are well-suited for megawatt-class applications, offering a number of advantages over other types of fuel cells in the markets we are pursuing. These advantages include carbonate fuel cells' ability to generate electricity directly from readily available fuels such as natural gas or renewable biogas, lower raw material costs as the high temperature of the fuel cell enables the use of commodity metals rather than precious metals, and high-quality heat suitable for CHP applications. We are also actively developing SOFC technology, as discussed in the prior “Advanced Technologies Programs” section.  Other fuel cell types that may be used for commercial applications include phosphoric acid and PEM.

The following table illustrates the four principal types of fuel cells, highlighting typical market applications, industry estimates of the electrical efficiency, expected capacity range, and versatility for applications in addition to power generation:

 

 

MW- Class

 

Sub-MW- Class

 

Micro CHP

 

Mobile

System Size Range

Carbonate (CFC)

 

Solid Oxide (SOFC)

Phosphoric Acid (PAFC)

 

PEM / SOFC

 

Polymer Electrolyte Membrane (PEM)

Plant size

1.4 MW - 3.7 MW

 

up to 250 kW

up to 440 kW

 

< 10 kW

 

5 - 100 kW

Typical Application

Utilities, Universities, Industrial

 

Commercial Buildings & “Big-Box” Retail Stores Stores

Commercial Buildings & Grocery Stores

 

Residential and Small Commercial

 

Transportation

Fuel

Natural gas, On-site or Directed Biogas, Others

 

Natural Gas

Natural Gas

 

Natural Gas

 

Hydrogen

Advantages

High Efficiency, Scalable, Fuel Flexible & CHP

 

High Efficiency

CHP

 

Load Following & CHP

 

Load Following & Low Temperature

Electrical efficiency

43%-47 to 60%

 

50% - 60%

40% - 42%

 

25% - 35%

 

25% - 35%

Combined Heat & Power (CHP)

Yes, Steam & Chilling

 

Depends on Technology Used

Limited:  Hot Water, Chilling

 

Suitable for Facility Heating

 

no

Carbon Capture

Yes

 

no

no

 

no

 

no

Distributed Hydrogen

Yes

 

Yes

no

 

no

 

no

Reversible for Storage

no

 

Yes

no

 

no

 

no

 

Competition

Our SureSource power plants compete in the marketplace for stationary distributed generation. In addition to different types of stationary fuel cells, some other technologies that compete in this marketplace include micro-turbines and reciprocating gas engines.

21


 

Several companies in the U.S. are engaged in fuel cell development, although we are the only domestic company engaged in manufacturing and deployment of stationary carbonate fuel cells. Other emerging fuel cell technologies (and the companies developing them) include small or portable PEM fuel cells (Ballard Power Systems, Plug Power, and increasing activity by numerous automotive companies including Toyota, Hyundai, Honda and GM), stationary phosphoric acid fuel cells (Doosan), stationary solid oxide fuel cells (LG/Rolls Royce partnership and Bloom Energy), and small residential solid oxide fuel cells (Ceres Power Holdings and Ceramic Fuel Cells Ltd.).  Each of these competitors with stationary fuel cell applications has the potential to capture market share in our target markets.

Other than fuel cell developers, we may compete with companies such as Caterpillar, Cummins, Wartsilla, MTU Friedrichshafen GmbH (MTU), and Detroit Diesel, which manufacture more mature combustion-based distributed power generation equipment, including various engines and turbines, and have well-established manufacturing and distribution operations along with product operating and cost features. Competition on larger MW projects may also come from gas turbine companies like General Electric, Caterpillar Solar Turbines and Kawasaki.

We also compete against the electric grid, which is readily available to prospective customers.  The electric grid is supplied by traditional centralized power plants, including coal, gas and nuclear, with transmission lines used to transport the electricity to the point of use.

Our stationary fuel cell power plants compete against large scale solar and wind technologies, although we can complement solar and wind intermittency with the continuous power output of the fuel cells.  Solar and wind require specific geographies and weather profiles and require transmission for utility-scale applications as well as a significant amount of land compared to our fuel cell power plants, making it difficult to site MW-class projects in urban areas, unlike our solutions.

We believe that only carbonate fuel cells are suitable for fuel cell carbon capture applications, so our fuel cell carbon capture solution does not compete against fuel cells from manufacturers utilizing other fuel cell technologies.

Our distributed hydrogen solution competes against traditional centralized hydrogen generation as well as electrolyzers used for distributed applications.  Hydrogen is typically generated at a central location in large quantities by combustion-based steam reforming and then distributed to end users by diesel truck.  Besides utilizing tri-generation SureSource plants for distributed hydrogen, electrolyzers can be used that are in essence, reverse fuel cells.  Electrolyzers take electricity and convert it to hydrogen.  The hydrogen can be used as it is generated, compressed and stored, or injected into the natural gas pipeline.  Companies using fuel cell-based electrolyzer technology for transportation applications include NEL and Hydrogenics Corporation.

Hydrogen is an energy carrier and energy storage utilizing hydrogen is a growing market opportunity that we are pursuing with our SOFC/SOEC technology.  Companies using PEM-based fuel cell electrolyzer technology for storage include Hydrogenics Corporation and ITM Power PLC.  

Regulatory and Legislative Support

Distributed generation addresses certain power generation issues that central generation does not and regulatory policy can impact deployment of distributed generation.  Regulatory and legislative support encompasses policy, incentive programs, and defined sustainability initiatives such as Renewable Portfolio Standards (“RPS”).

Various states and municipalities in the U.S. have adopted programs for which our products qualify, including programs supporting self-generation, clean air power generation, combined heat and power applications, carbon reduction, grid resiliency / micro-grids and utility ownership of fuel cell projects.

The majority of states in the U.S. have enacted legislation adopting Clean Energy Standards (“CES”) or RPS mechanisms. Under these standards, regulated utilities and other load serving entities are required to procure a specified percentage of their total electricity sales to end-user customers from eligible resources. CES and RPS legislation and implementing regulations vary significantly from state to state, particularly with respect to the percentage of renewable energy required to achieve the state’s mandate, the definition of eligible clean and

22


 

renewable energy resources, and the extent to which renewable energy credits (certificates representing the generation of renewable energy) qualify for CES or RPS compliance. Fuel cells using biogas qualify as renewable power generation technology in all of the CES and RPS states in the U.S., and eight states (Connecticut, Delaware, Indiana, New York, Ohio, Oklahoma, Pennsylvania and Maine) specify that fuel cells operating on natural gas are also eligible for these initiatives in recognition of the high efficiency and low pollutants of fuel cells.  Massachusetts has recently promulgated regulations that will qualify certain fuel cells under its Alternative Portfolio Standard.

Internationally, South Korea has an RPS to promote clean energy, reduce carbon emissions, and develop local manufacturing of clean energy generation products to accelerate economic growth. The RPS is designed to increase new and renewable power generation to 10% of total power generation by 2023 from 2% when the RPS began in 2012.  Eighteen of the largest power generators are obligated to achieve the RPS requirements in their generation or purchase offsetting renewable energy certificates.  Financial penalties are levied by the government for non-compliance.

Government Regulation

Our Company and its products are subject to various federal, provincial, 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. Negligible emissions of SOx and NOx from our power plants are substantially lower than conventional combustion-based generating stations, and are far below existing and proposed regulatory limits. The primary emissions from our power plants, assuming no cogeneration application, are humid flue gas that is discharged at temperatures of 700-800° F, water that is discharged at temperatures of 10-20° F above ambient air temperatures, and CO2 in per kW hour amounts that are much less than conventional fossil fuel central generation power plants due to the high efficiency of fuel cells. The discharge of water from our power plants requires permits that depend on whether the water is to be discharged into a storm drain or into the local wastewater system.

We are also subject to federal, state, provincial and/or local regulation with respect to, among other things, emissions and siting. In addition, utility companies and several states in the U.S. have created and adopted, or are in the process of creating, interconnection regulations covering both technical and financial requirements for interconnection of fuel cell power plants to utility grids. Our power plants are designed to meet all applicable laws, regulations and industry standards for use in their international markets.  Our SureSource solutions are CARB 2007 certified, and our SureSource 1500, when operating on biogas, is certified for the CARB 2013 biogas standards.

We are committed to providing a safe and healthy environment for our employees, and we are dedicated to seeing that safety and health hazards are adequately addressed through appropriate work practices, training and procedures.  All of our employees must observe the proper safety rules and environmental practices in work situations, consistent with these work practices, training and procedures, and consistent with all applicable health, safety and environmental laws and regulations.

Proprietary Rights and Licensed Technology

Our intellectual property consists of patents, trade secrets and institutional knowledge that we believe is a competitive advantage and represents a significant barrier to entry for potential competitors.  Our Company was founded in 1969 as an applied research company and began focusing on carbonate fuel cells in the 1980s, with our first fully commercialized SureSource power plant sold in 2003. Over this time, we have gained extensive experience in designing, manufacturing, operating and maintaining fuel cell power plants.  This experience cannot be easily or quickly replicated and, combined with our trade secrets, proprietary processes and patents, safeguards our intellectual property rights.

As of October 31, 2017, our Company, excluding its subsidiaries, had 92 patents in the U.S. and 106 patents in other jurisdictions covering our fuel cell technology (in certain cases covering the same technology in multiple jurisdictions), with patents directed to various aspects of our SureSource technology, SOFC technology, PEM fuel cell technology, and applications thereof. As of October 31, 2017, we also had 30 patent applications pending in the U.S. and 93 pending in other jurisdictions.  Our U.S. patents will expire between 2018 and 2035, and the current average remaining life of our U.S. patents is approximately 9.2 years.

23


 

Our subsidiary, Versa Power Systems, Ltd., as of October 31, 2017, had 35 U.S. patents and 75 international patents covering the SOFC technology (in certain cases covering the same technology in multiple jurisdictions), with an average remaining U.S. patent life of approximately 6.8 years.  As of October 31, 2017, Versa Power Systems, Ltd. also had four pending U.S. patent applications and 14 patent applications pending in other jurisdictions.  In addition, our subsidiary, FuelCell Energy Solutions, GmbH, has license rights to use FuelCell Energy's carbonate fuel cell technology, and, as of October 31, 2017, had two U.S. patents and nine patents outside the U.S. for carbonate fuel cell technology licensed from Fraunhofer IKTS.

No patents have expired or will expire in 2018 that would have any material impact on our current or anticipated operations.  As has historically been the case, we are continually innovating and have a significant number of invention disclosures that we are reviewing that may result in additional patent applications.

Many of our U.S. patents are the result of government-funded research and development programs, including our Department of Energy (DOE) programs. U.S. patents we own that resulted from government-funded research are subject to the government exercising “march-in” rights. We believe that the likelihood of the U.S. government exercising these rights is remote and would only occur if we ceased our commercialization efforts and there was a compelling national need to use the patents.

Significant Customers and Information about Geographic Areas

We contract with a concentrated number of customers for the sale of our products and for research and development contracts. For the years ended October 31, 2017, 2016 and 2015, our top customers, Hanyang Industrial Development Co., Ltd, Dominion Bridgeport Fuel Cell, LLC, the Department of Energy, ExxonMobil, POSCO Energy (which owns approximately 4% of the outstanding shares of common stock of the Company), and Avangrid Holdings (through its various subsidiaries), accounted for an aggregate of 78%, 75% and 90%, respectively, of our total annual consolidated revenue. Revenue percentage by major customer for the last three fiscal years is as follows:

 

 

 

Years Ended October 31,

 

 

 

2017

 

 

2016

 

 

2015

 

Hanyang Industrial Development Co. Ltd

 

 

40

%

 

 

%

 

 

%

Dominion Bridgeport Fuel Cell, LLC

 

 

11

%

 

 

6

%

 

 

3

%

Department of Energy

 

 

9

%

 

 

8

%

 

 

5

%

ExxonMobil

 

 

9

%

 

 

3

%

 

 

1

%

POSCO Energy

 

 

6

%

 

 

48

%

 

 

67

%

Avangrid Holdings (through its various subsidiaries)

 

 

3

%

 

 

10

%

 

 

14

%

Total

 

 

78

%

 

 

75

%

 

 

90

%

 

See Item 7 – “Management's Discussion and Analysis of Financial Condition and Results of Operations” and Item 8 – “Consolidated Financial Statements and Supplementary Data” for further information regarding our revenue and revenue recognition policies.

We have marketing and manufacturing operations both within and outside the United States. We source raw materials and BOP components from a diverse global supply chain.  In 2017, the foreign country with the greatest concentration risk was South Korea, accounting for 46% of our consolidated net sales.  The Company is entitled to receive royalties from POSCO Energy on the sale of power plants and module replacements related to service of fuel cell power plants in Asia.  As part of our strategic plan, we are in the process of diversifying our sales mix from both a customer specific and geographic perspective. See Item 1A: Risk Factors - “We are substantially dependent on a concentrated number of customers and the loss of any one of these customers could adversely affect our business, financial condition and results of operations,” “We depend on strategic relationships with third parties, and the terms and enforceability of many of these relationships are not certain,” and “As our relationship with POSCO Energy changes, we may not be able to succeed in our efforts to access the South Korean and Asian markets.”

The international nature of our operations subjects us to a number of risks, including fluctuations in exchange rates, adverse changes in foreign laws or regulatory requirements and tariffs, taxes, and other trade restrictions. See Item

24


 

1A: Risk Factors – “We are subject to risks inherent in international operations.” See also Note 14 “Segment Information,” to the consolidated financial statements in Part II, Item 8, “Consolidated Financial Statements And Supplementary Data” of this Annual Report on Form 10-K for information about our net sales by geographic region for the years ended October 31, 2017, 2016, and 2015. See also Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” for other information about our operations and activities in various geographic regions.

Sustainability

FuelCell Energy’s ultra-clean, efficient and reliable fuel cell power plants help our customers achieve their sustainability goals. These highly efficient and environmentally friendly products support the “Triple Bottom Line” concept of sustainability, consisting of environmental, social and economic considerations.

Product efficiency

The electrical efficiency of our fuel cell solutions ranges from approximately 47% to 60% depending on the configuration.  This compares favorably to the average efficiency of the U.S. electrical grid of about 35%.  Our solutions deliver this high electrical efficiency where the power is used, avoiding transmission.  Transmission line losses average about 6% to 9% for the U.S. grid, which represents inefficiency and is a hidden cost to ratepayers.  In a combined heat and power configuration, total thermal efficiency of our fuel cell solutions can potentially be up to 90% depending on the application.

Energy management

We utilize our fuel cells to provide a portion of the electricity used at our corporate office and at our North American manufacturing facility.

Other examples of energy management include routing excess heat from production processes throughout the manufacturing facility to reduce both heating costs and associated emissions, utilizing the power produced by fuel cells undergoing R&D at our corporate office for a portion of the power needs of the facility, and installation of high efficiency lighting at our North American manufacturing facility and corporate office.

We have expanded our manufacturing facility in Torrington and consolidated other locations, reducing transportation emissions and transportation costs, incorporating energy efficient building standards and reducing leasing costs.  We are pursuing additional consolidation initiatives in 2018 as we plan to relocate fuel cell module conditioning to Torrington from our Danbury facility, which will further reduce transportation emissions and costs.  We recognize that there is more to be done and we are utilizing cross-functional teams to identify and evaluate additional areas for improvement.

Product end-of-life management

We continue to incorporate sustainability best practices into our corporate culture and into the design, manufacture, installation and servicing of our fuel cell power plants.  For example, at the end-of-life of our power plants, we refurbish and re-use certain parts of the power plant and we are able to recycle most of what we cannot re-use.  Some of the parts in the fuel cell module can be re-furbished, such as end plates, while the individual fuel cell components are sent to a smelter for recycling. The BOP has an operating life of twenty to twenty-five years, at which time metals such as steel and copper are reclaimed for scrap value.  By weight, approximately 93% of the entire power plant is either re-used or recycled.

Our manufacturing process has a very low carbon footprint, utilizing an assembly oriented production strategy.  While we continue to enhance and adopt sustainable business practices, we recognize this is an ongoing effort with more to be accomplished, such as further reducing the direct and indirect aspects of our carbon footprint.

25


 

Workforce Health & Safety

We work to continually improve what we feel is a robust safety program.  This is demonstrated by an improving safety trend over each of the past 4 years.  We have never had a workplace fatality at any of our facilities or power plant installations.

Sustainability also incorporates social risks and human rights and we will not knowingly support or do business with suppliers that treat workers improperly or unlawfully, including, without limitation, those that engage in child labor, human trafficking, slavery or other unlawful or morally reprehensible employment practices.  We are continuing to implement comprehensive monitoring of our global supply chain to eliminate social risks and ensure respect for human rights. We contractually ensure that all qualified domestic suppliers in our supply chain comply with the Fair Labor Standards Act of 1938, as amended.  

Materials sourcing

Assuring the absence of conflict minerals in our power plants is a continuing initiative.  Our fuel cells, including the fuel cell components and completed fuel cell module, do not utilize any 3TG minerals (i.e. tin, tungsten, tantalum and gold) that are classified as conflict minerals.  We do utilize componentry in the BOP such as computer circuit boards that utilize trace amounts of 3TG minerals. For perspective, total shipments in fiscal year 2016 weighed approximately 5.8 million pounds, of which 3 pounds, or 0.000052%, represented 3TG minerals, so the presence of these minerals is minimal.  Our conflict mineral disclosure filed with the Securities and Exchange Commission (“SEC”) on Form SD contains specific information on the actions we are taking to avoid the use of conflict minerals.

Associates

As of October 31, 2017, we had 458 full-time associates, of whom 173 were located at the Torrington manufacturing plant, 246 were located at the Danbury, Connecticut facility or other field offices within the U.S., and 39 were located abroad. None of our associates are represented by a labor union or covered by a collective bargaining agreement.  We believe our relations with our associates are good.

Available Information

Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports are made available free of charge through the Investor Relations section of the Company’s Internet website (http://www.fuelcellenergy.com) as soon as practicable after such material is electronically filed with, or furnished to, the SEC. Material contained on our website is not incorporated by reference in this report. Our executive offices are located at 3 Great Pasture Road, Danbury, CT 06810. The public may also read and copy any materials that we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet website that contains reports and other information regarding issuers that file electronically with the SEC located at http://www.sec.gov.


26


 

Executive Officers of the Registrant

 

NAME

 

AGE

 

PRINCIPAL OCCUPATION

Arthur A. Bottone

President and Chief Executive Officer

 

57

 

 

Mr. Bottone joined FuelCell Energy in February 2010 as Senior Vice President and Chief Commercial Officer and was promoted to President and Chief Executive Officer in February 2011.  Mr. Bottone's focus is to accelerate and diversify global revenue growth to achieve profitability by capitalizing on heightened global demand for clean and renewable energy.  Mr. Bottone has broad experience in the power generation field, including traditional central generation and alternative energy.  Prior to joining FuelCell Energy, Mr. Bottone spent 25 years at Ingersoll Rand, a diversified global industrial company, including as President of the Energy Systems business.  Mr. Bottone's qualifications include extensive global business development, technology commercialization, power generation project development as well as acquisition and integration experience.

Mr. Bottone received an undergraduate degree in Mechanical Engineering from Georgia Institute of Technology in 1983, and received a Certificate of Professional Development from The Wharton School, University of Pennsylvania in 2004.

 

 

 

 

 

 

Michael S. Bishop

Senior Vice President, Chief Financial Officer and Treasurer

 

49

 

 

Mr. Bishop was appointed Senior Vice President, Chief Financial Officer and Treasurer in June 2011. He has more than 20 years of experience in financial operations and management with public high growth technology companies with a focus on capital raising, project finance, debt/treasury management, investor relations, strategic planning, internal controls, and organizational development. Since joining the Company in 2003, Mr. Bishop has held a succession of financial leadership roles, including Assistant Controller, Corporate Controller and Vice President and Controller. Prior to joining FuelCell Energy, Mr. Bishop held finance and accounting positions at TranSwitch Corporation, Cyberian Outpost, Inc. and United Technologies, Inc. He is a certified public accountant and began his professional career at McGladrey and Pullen, LLP. Mr. Bishop also served four years in the United States Marine Corps.

Mr. Bishop received a Bachelor of Science in Accounting from Boston University in 1993 and a MBA from the University of Connecticut in 1999.

 

 

 

 

 

 

27


 

NAME

 

AGE

 

PRINCIPAL OCCUPATION

Anthony F. Rauseo

Senior Vice President, Chief Operating Officer

 

58

 

 

Mr. Rauseo was appointed Chief Operating Officer in July 2010. In this position, Mr. Rauseo has responsibility for closely integrating the manufacturing operations with the supply chain, product development and quality initiatives. Mr. Rauseo is an organizational leader with a strong record of achievement in product development, business development, manufacturing, operations, and customer support. Mr. Rauseo joined the Company in 2005 as Vice President of Engineering and Chief Engineer. Prior to joining Fuel Cell Energy, Mr. Rauseo held a variety of key management positions in manufacturing, quality and engineering, including five years with CiDRA Corporation. Prior to joining CiDRA, Mr. Rauseo was with Pratt and Whitney for 17 years where he held various leadership positions in product development, production and customer support of aircraft turbines.

Mr. Rauseo received a Bachelor of Science in Mechanical Engineering from Rutgers University in 1983 and received a Masters of Science in Mechanical Engineering from Rensselaer Polytechnic Institute in 1987.

 

 

 

 

 

 

Jennifer D. Arasimowicz, Esq.

Senior Vice President, General Counsel and Corporate Secretary

 

45

 

 

Ms. Arasimowicz was appointed Senior Vice President, General Counsel and Corporate Secretary in April 2017. In this position, Ms. Arasimowicz, a licensed attorney in Connecticut, New York and Massachusetts, is the chief legal officer and chief compliance officer of the Company, having responsibility for oversight of all of the Company’s legal and government affairs, and providing leadership in all aspects of the Company’s business, including compliance, corporate governance and board activities.  Ms. Arasimowicz joined the Company in 2012 as Associate Counsel and was promoted to Vice President in 2014.  Prior to joining the Company, Ms. Arasimowicz served as General Counsel of Total Energy Corporation, a New York based diversified energy products and service company providing a broad range of specialized services to utilities and industrial companies.  Previously, Ms. Arasimowicz was a partner at Shipman & Goodwin in Hartford, Connecticut, chairing the Utility Law Practice Group and began her legal career as an associate at Murtha Cullina.  

Ms. Arasimowicz earned her Juris Doctor at Boston University School of Law and holds a bachelor’s degree in English from Boston University.

 

28


 

Item 1A.

RISK FACTORS

You should carefully consider the following risk factors before making an investment decision. If any of the following risks actually occur, our business, financial condition, or results of operations could be materially and adversely affected. In such cases, the trading price of our common stock could decline, and you may lose all or part of your investment.

We have incurred losses and anticipate continued losses and negative cash flow.

We have transitioned from a research and development company to a commercial products manufacturer, services provider and developer. We have not been profitable since our year ended October 31, 1997. We expect to continue to incur net losses and generate negative cash flows until we can produce sufficient revenues and margins to cover our costs. We may never become profitable. Even if we do achieve profitability, we may be unable to sustain or increase our profitability in the future. For the reasons discussed in more detail below, there are substantial uncertainties associated with our achieving and sustaining profitability. We have, from time to time, sought financing in the public markets in order to fund operations and will continue to do so. Our future ability to obtain such financing could be impaired by a variety of factors, including, but not limited to, the price of our common stock and general market conditions.

Our cost reduction strategy may not succeed or may be significantly delayed, which may result in our inability to deliver improved margins.

Our cost reduction strategy is based on the assumption that increases in production will result in economies of scale. In addition, our cost reduction strategy relies on advancements in our manufacturing process, global competitive sourcing, engineering design, reducing the cost of capital and technology improvements (including stack life and projected power output). Failure to achieve our cost reduction targets could have a material adverse effect on our results of operations and financial condition.

We have debt outstanding and may incur additional debt in the future, which may adversely affect our financial condition and future financial results.

Our total consolidated indebtedness was $87.8 million as of October 31, 2017. This includes approximately $46.9 million of debt at our project finance subsidiaries and $40.9 million at the corporate level. The majority of our debt is long-term with $28.3 million due within twelve months as of October 31, 2017. We also have approximately $40.0 million of borrowing capacity under a revolving construction and term project financing facility. Our ability to make scheduled payments of the principal and interest or to refinance our indebtedness depends on our future performance, which is subject to economic, financial, competitive and other factors beyond our control. Our business may not generate cash flow from operations in the future sufficient to service our debt and make necessary capital expenditures. If we are unable to generate such cash flow, we may be required to adopt one or more alternatives, such as selling assets, restructuring debt or obtaining additional equity capital on terms that may be onerous or dilutive.

It is also possible that we may incur additional indebtedness in the future in the ordinary course of business. If new debt is added to current debt levels, the risks described above could intensify.

Our debt agreements contain customary representations and warranties, affirmative and negative covenants, and events of default that entitle the lenders to cause our indebtedness under such debt agreements to become immediately due and payable. In addition, our Loan and Security Agreement with Hercules Capital, Inc. (“Hercules”), as amended, contains a financial covenant whereby we are required to maintain an unrestricted cash balance in accounts subject to an account control agreement in favor of Hercules of at least the greater of (x) (a) 75% of the outstanding loan balance plus (b) the amount of accounts payable not paid within 90 days of the invoice date, and (y) (a) at all times prior to the Stockholder Approval Date, $20.0 million and (b) at all times on and after the Stockholder Approval Date, $10.0 million (the Stockholder Approval Date was December 14, 2017, which was the date on which stockholder approval of the issuance of certain shares upon the conversion and/or redemption of our Series C Convertible Preferred Stock was obtained). The Loan and Security Agreement, as amended, also contains an event of default in the event of the delivery of a notice by the holders to redeem the Series C Preferred

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Shares following a triggering event pursuant to the certificate of designations governing the Series C Preferred Shares. As of October 31, 2017, the outstanding loan balance under the Loan and Security Agreement, as amended, was $21.5 million, including accretion of an end-of-term payment.

Our products compete with products using other energy sources, and if the prices of the alternative sources are lower than energy sources used by our products, sales of our products will be adversely affected. Volatility of electricity and fuel prices may impact sales of our products and services in the markets in which we compete.

Our power plants can operate on a variety of fuels including natural gas, renewable biogas, directed biogas and propane. If these fuels are not readily available or if their prices increase such that electricity produced by our products costs more than electricity provided by other generation sources, our products would be less economically attractive to potential customers. In addition, we have no control over the prices of several types of competitive energy sources such as oil, gas or coal or local utility electricity costs. Significant decreases (or short term increases) in the price of these fuels or grid delivered prices for electricity could also have a material adverse effect on our business because other generation sources could be more economically attractive to consumers than our products.

Financial markets worldwide have experienced heightened volatility and instability which may have a material adverse impact on our Company, our customers and our suppliers.

Financial market volatility can affect the debt, equity and project finance markets. This may impact the amount of financing available to all companies, including companies with substantially greater resources, better credit ratings and more successful operating histories than ours. It is impossible to predict future financial market volatility and instability and the impact on our Company, and it may have a materially adverse effect on us for a number of reasons, such as:

 

The long term nature of our sales cycle can require long lead times between application design, order booking and product fulfillment. For this, we often require substantial cash down payments in advance of delivery. Our growth strategy assumes that financing will be available for the Company to finance working capital or for our customers to provide down payments and to pay for our products. Financial market issues may delay, cancel or restrict the construction budgets and funds available to the Company or our customers for the deployment of our products and services.

 

Projects using our products are, in part, financed by equity investors interested in tax benefits as well as by the commercial and governmental debt markets. The significant volatility in the U.S. and international stock markets cause significant uncertainty and may result in an increase in the return required by investors in relation to the risk of such projects.

 

If we, our customers and suppliers cannot obtain financing under favorable terms, our business may be negatively impacted.

Our contracted projects may not convert to revenue, and our project pipeline may not convert to contracts, which may have a material adverse effect on our revenue and cash flow.

Some of the orders we accept from customers require certain conditions or contingencies (such as permitting, interconnection or financing) to be satisfied, some of which are outside of our control. The time periods from receipt of a contract to installation may vary widely and are determined by a number of factors, including the terms of the customer contract and the customer’s site requirements. This could have an adverse impact on our revenue and cash flow.

We have signed product sales contracts, engineering, procurement and construction contracts (“EPC”), power purchase agreements and long-term service agreements with customers subject to contractual, technology and operating risks as well as market conditions that may affect our operating results.

The Company applies the percentage of completion revenue recognition method to certain product sales contracts which are subject to estimates. On a quarterly basis, the Company performs a review process to help ensure that total estimated contract costs include estimates of costs to complete that are based on the most recent available

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information. The percentage of completion for the customer contracts based on this cost analysis is then applied to the total customer contract values to determine the total revenue to be recognized to date.

In certain instances, we have executed power purchase agreements (“PPA”) with the end-user of the power and site host of the fuel cell power plant. We may then sell the PPA to a project investor or retain the project and collect revenue from the sale of power over the term of the PPA, recognizing electricity revenue as power is generated and sold.

We have contracted under long-term service agreements with certain customers to provide service on our products over terms up to 20 years. Under the provisions of these contracts, we provide services to maintain, monitor, and repair customer power plants to meet minimum operating levels. Pricing for service contracts is based upon estimates of future costs including future stack replacements. While we have conducted tests to determine the overall life of our products, we have not run our products over their projected useful life prior to large-scale commercialization. As a result, we cannot be sure that our products will last to their expected useful life, which could result in warranty claims, performance penalties, maintenance and stack replacement costs in excess of our estimates and losses on service contracts.

Our ability to proceed with projects under development and complete construction of projects on schedule and within budget may be adversely affected by escalating costs for materials, labor and regulatory compliance, inability to obtain necessary permits, interconnections or other approvals on acceptable terms or on schedule and other factors. If any development project or construction is not completed, is delayed or is subject to cost overruns, we could become obligated to make delay or termination payments or become obligated for other damages under contracts, experience diminished returns or write off all or a portion of our investment in the project. Each of these events could have an adverse effect on our business, financial condition, results of operations and prospects.

Our growing generation portfolio of operating assets exposes us to operational risks and commodity market volatility.

We have a growing portfolio of generation assets selling power under PPAs and utility tariff programs that exposes us to operational risks and uncertainties, including, among other things, lost revenues due to prolonged outages, replacement equipment costs, risks associated with facility start-up operations, failures in the availability or acquisition of fuel, the impact of severe adverse weather conditions and natural disasters, risks of property damage or injury from energized equipment, availability of adequate water resources and ability to intake and discharge water, use of new or unproven technology, fuel commodity price risk and fluctuating market prices, and lack of alternative available fuel sources,

We extend product warranties, which could affect our operating results.

We provide for a warranty of our products for a specific period of time against manufacturing or performance defects. We accrue for warranty costs based on historical warranty claim experience, however, actual future warranty expenses may be greater than we have assumed in our estimates. As a result, operating results could be negatively impacted should there be product manufacturing or performance defects in excess of our estimates.

Our products are complex and could contain defects and may not operate at expected performance levels which could impact sales and market adoption of our products or result in claims against us.

We develop complex and evolving products, and we continue to advance the capabilities of the fuel cell stacks and are now producing stacks with a net rated power output of 350 kW and an expected five year life.

We are still gaining field operating experience with respect to our products, and despite experience gained from our growing installed base and testing performed by us, our customers and our suppliers, issues may be found in existing or new products. This could result in a delay in recognition or loss of revenues, loss of market share or failure to achieve broad market acceptance. The occurrence of defects could also cause us to incur significant warranty, support and repair costs, could divert the attention of our engineering personnel from our product development efforts, and could harm our relationships with our customers. The occurrence of these problems could result in the

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delay or loss of market acceptance of our products and would likely harm our business. Defects or performance problems with our products could result in financial or other damages to our customers. From time to time, we have been involved in disputes regarding product warranty issues. Although we seek to limit our liability, a product liability claim brought against us, even if unsuccessful, would likely be time consuming and could be costly to defend. Our customers could also seek and obtain damages from us for their losses. We have accrued liabilities for potential damages related to performance problems, however, actual results may be different than the assumptions used in our accrual calculations.

We currently face and will continue to face significant competition.

We compete on the basis of our products’ reliability, efficiency, environmental considerations and cost. Technological advances in alternative energy products or improvements in the electric grid or other sources of power generation, or other fuel cell technologies may negatively affect the development or sale of some or all of our products or make our products non-competitive or obsolete prior to or after commercialization. Other companies, some of which have substantially greater resources than ours, are currently engaged in the development of products and technologies that are similar to, or may be competitive with, our products and technologies.

Several companies in the U.S. are engaged in fuel cell development, although we are the only domestic company engaged in manufacturing and deployment of stationary carbonate fuel cells. Other emerging fuel cell technologies (and the companies developing them) include small or portable PEM fuel cells (Ballard Power Systems, Plug Power, and increasing activity by numerous automotive companies including Toyota, Hyundai, Honda and GM), stationary phosphoric acid fuel cells (Doosan), stationary solid oxide fuel cells (LG/Rolls Royce partnership and Bloom Energy), and small residential solid oxide fuel cells (Ceres Power Holdings and Ceramic Fuel Cells Ltd.). Each of these competitors has the potential to capture market share in our target markets. There are also other potential fuel cell competitors internationally that could capture market share.

Other than fuel cell developers, we must also compete with companies that manufacture more mature combustion-based equipment, including various engines and turbines, and have well-established manufacturing, distribution, and operating and cost features. Electrical efficiency of these products can be competitive with our SureSource power plants in certain applications. Significant competition may also come from gas turbine companies and large scale solar and wind technologies.

We derive significant revenue from contracts awarded through a competitive bidding process involving substantial costs and risks. Due to this competitive pressure, we may be unable to grow revenue and achieve profitability.

We expect a significant portion of the business that we will seek in the foreseeable future will be awarded through competitive bidding versus other fuel cell technologies and other forms of power generation. The competitive bidding process involves substantial costs and a number of risks, including the significant cost and managerial time to prepare bids and proposals for contracts that may not be awarded to us and our failure to accurately estimate the resources and costs that will be required to fulfill any contract we win. In addition, following a contract award, we may encounter significant expense, delay or contract modifications as a result of our competitors protesting or challenging contracts awarded to us in competitive bidding. In addition, multi-award contracts require that we make sustained post-award efforts to obtain task orders under the contract. We may not be able to obtain task orders or recognize revenue under these multi-award contracts. Our failure to compete effectively in this procurement environment would adversely affect our revenue and/or profitability.

Unanticipated increases or decreases in business growth may result in adverse financial consequences for us.

If our business grows more quickly than we anticipate, our existing and planned manufacturing facilities may become inadequate and we may need to seek out new or additional space, at considerable cost to us. If our business does not grow as quickly as we expect, our existing and planned manufacturing facilities would, in part, represent excess capacity for which we may not recover the cost In that circumstance, our revenues may be inadequate to support our committed costs and our planned growth, and our gross margins, and business strategy would be adversely affected.

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Our plans are dependent on market acceptance of our products.

Our plans are dependent upon market acceptance of, as well as enhancements to, our products. Fuel cell systems represent an emerging market, and we cannot be sure that potential customers will accept fuel cells as a replacement for traditional power sources. 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 distributed generation market is still evolving, it is difficult to predict with certainty the size of the market and its growth rate. The development of a market for our products may be affected by many factors that are out of our control, including:

 

the cost competitiveness of our fuel cell products, including availability and output expectations and total cost of ownership;

 

the future costs of natural gas and other fuels used by our fuel cell products;

 

customer reluctance to try a new product;

 

the market for distributed generation;

 

local permitting and environmental requirements; and

 

the emergence of newer, more competitive technologies and products.

If a sufficient market fails to develop or develops more slowly than we anticipate, we may be unable to recover the losses we will have incurred in the development of our products and may never achieve profitability.

As we continue to expand markets for our products, we intend to continue offering power production guarantees and other terms and conditions relating to our products that will be acceptable to the marketplace, and continue to develop a service organization that will aid in servicing our products and obtain self-regulatory certifications, if available, with respect to our products. Failure to achieve any of these objectives may also slow the development of a sufficient market for our products and, therefore, have a material adverse effect on our results of operations and financial condition.

We are substantially dependent on a concentrated number of customers and the loss of any one of these customers could adversely affect our business, financial condition and results of operations.

We contract with a concentrated number of customers for the sale of products and for research and development contracts. There can be no assurance that we will continue to achieve the current level of sales of our products to our largest customers. Even though our customer base is expected to increase and our revenue streams to diversify, a substantial portion of net revenues could continue to depend on sales to a limited number of customers. Our agreements with these customers may be canceled if we fail to meet certain product specifications or materially breach the agreements, and our customers may seek to renegotiate the terms of current agreements or renewals. The loss of, or a reduction in sales to, one or more of our larger customers could have a material adverse effect on our business, financial condition and results of operations.

As our relationship with POSCO Energy changes, we may not be able to succeed in our efforts to access the South Korean and Asian markets.

We have historically relied on POSCO Energy to develop and grow the South Korean and Asian markets for our products and services. We entered into manufacturing and technology transfer agreements with POSCO Energy in 2007, 2009 and 2012, each of which expires on October 31, 2027. The Cell Technology Transfer Agreement (“CTTA”) provides POSCO Energy with the technology rights to manufacture SureSource power plants in South Korea and the right to sell power plants throughout Asia. The CTTA requires POSCO Energy to pay to the Company a 3.0% royalty on POSCO Energy net product sales, as well as a royalty on scheduled fuel cell module replacements under service agreements for modules that were built by POSCO Energy and installed at plants in Asia under the terms of our Master Service Agreement with POSCO Energy. In March 2017, we entered into a memorandum of understanding with POSCO Energy to permit us to directly develop the Asian fuel cell business, including the right for us to sell SureSource solutions in South Korea and the broader Asian market. We and POSCO Energy also agreed to undertake to amend the CTTA and other agreements by a target date of September 30, 2017, to reflect our

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new relationship. Although the CTTA and other agreements have not yet been amended, we continue to engage in discussions with POSCO Energy regarding our relationship and the direction of the fuel cell business in the South Korean and Asian markets. We cannot predict the outcome of such discussions, the future status or scope of our relationship with POSCO Energy, or whether our relationship with POSCO Energy will continue in the future. If we enter into new or amended agreements with POSCO Energy, those agreements may be on terms that are less favorable to us than our existing agreements. If our relationship with POSCO Energy ends, or continues on terms that are less favorable to us, our efforts to access the South Korean and Asian markets, which are complex markets, may not be successful or may be hindered or delayed.

If our goodwill and other intangible assets, long-lived assets, inventory or project assets become impaired, we may be required to record a significant charge to earnings.

We may be required to record a significant charge to earnings in our financial statements should we determine that our goodwill, other intangible assets (i.e., in process research and development (“IPR&D”)), long-lived assets (i.e., property, plant and equipment), inventory, or project assets are impaired. Such a charge might have a significant impact on our reported financial position and results of operations.

As required by accounting rules, we review our goodwill for impairment at least annually as of July 31 or more frequently if facts and circumstances indicate that it is more likely than not that the fair value of a reporting unit that has goodwill is less than its carrying value. Factors that may be considered a change in circumstances indicating that the carrying value of our goodwill might not be recoverable include a significant decline in projections of future cash flows and lower future growth rates in our industry. We review IPR&D for impairment on an annual basis as of July 31 or more frequently if facts and circumstances indicate the fair value is less than the carrying value. If the technology has been determined to be abandoned or not recoverable, we would be required to impair the asset. We review inventory and project assets for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. We consider a project commercially viable and recoverable if it is anticipated to be sellable for a profit once it is either fully developed or fully constructed. If our projects are not considered commercially viable, we would be required to impair the respective project assets.

We have risks associated with high levels of inventory.

The amount of total inventory as of October 31, 2017 and October 31, 2016 was $74.5 million and $73.8 million, respectively, which includes work in process inventory totaling $54.4 million and $48.5 million, respectively. We have recently reduced our production rate and expect to operate at a lower level for a period of time in order to deploy inventory to new projects and mitigate future increases in inventory. There is no guarantee, however, that we will be successful in deploying our existing inventory. In addition, there are risks that our inventory could lose some or all of its value due to technological obsolescence, shifts in market demand or other unexpected changes in industry conditions and circumstances. If we are unable to deploy our current inventory consistent with our business plan, we may be required to sell it at a loss, abandon it or recycle it onto different products. These actions would result in a significant charge to earnings. Such a charge might have a significant impact on our financial position and results of operations.

Our Advanced Technologies contracts are subject to the risk of termination by the contracting party and we may not realize the full amounts allocated under the contracts due to the lack of Congressional appropriations.

A portion of our fuel cell revenues have been derived from long-term cooperative agreements and other contracts with the U.S. Department of Energy and other U.S. government agencies. These agreements are important to the continued development of our technology and our products. We also contract and partner with private sector companies under certain Advanced Technologies contracts to develop strategically important and complementary offerings.

Generally, our government research and development contracts are subject to the risk of termination at the convenience of the contracting agency. Furthermore, these contracts, irrespective of the amounts allocated by the contracting agency, are subject to annual Congressional appropriations and the results of government or agency sponsored reviews and audits of our cost reduction projections and efforts. We can only receive funds under these contracts ultimately made available to us annually by Congress as a result of the appropriations process.

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Accordingly, we cannot be sure whether we will receive the full amounts awarded under our government research and development or other contracts. Failure to receive the full amounts under any of our government research and development contracts could materially and adversely affect our business prospects, results of operations and financial condition.

A negative government audit could result in an adverse adjustment of our revenue and costs and could result in civil and criminal penalties.

Government agencies, such as the Defense Contract Audit Agency, routinely audit and investigate government contractors. These agencies review a contractor’s performance under its contracts, cost structure, and compliance with applicable laws, regulations, and standards. If the agencies determine through these audits or reviews that we improperly allocated costs to specific contracts, they will not reimburse us for these costs. Therefore, an audit could result in adjustments to our revenue and costs.

Further, although we have internal controls in place to oversee our government contracts, no assurance can be given that these controls are sufficient to prevent isolated violations of applicable laws, regulations and standards. If the agencies determine that we or one of our subcontractors engaged in improper conduct, we may be subject to civil or criminal penalties and administrative sanctions, payments, fines, and suspension or prohibition from doing business with the government, any of which could materially affect our results of operations and financial condition.

The U.S. government has certain rights relating to our intellectual property, including the right to restrict or take title to certain patents.

Multiple U.S. patents that we own have resulted from government-funded research and are subject to the risk of exercise of “march-in” rights by the government. March-in rights refer to the right of the U.S. government or a government agency to exercise its non-exclusive, royalty-free, irrevocable worldwide license to any technology developed under contracts funded by the government if the contractor fails to continue to develop the technology. These “march-in” rights permit the U.S. government to take title to these patents and license the patented technology to third parties if the contractor fails to utilize the patents.

We are, from time to time depending on our overall employee count, classified for government contracting as a “Large Business”, which could adversely affect our rights to own future patents under Department of Energy (“DOE”)-funded contracts.

We are, from time to time depending on our overall employee count, classified as a “large business” under DOE contracts. This allows us to own the patents that we develop under new DOE contracts if we obtain a waiver from the DOE. A “large business” under applicable government regulations generally consists of more than 500 employees averaged over a one year period. We will not own future patents we develop under new contracts, grants or cooperative agreements funded by the DOE, unless we obtain a patent waiver from the DOE. Should we not obtain a patent waiver and outright ownership, we would nevertheless retain exclusive rights to any such patents, so long as we continue to commercialize the technology covered by the patents.

Our future success and growth is dependent on our market strategy.

We cannot assure you that we will enter into business relationships that are consistent with, or sufficient to support, our commercialization plans and our growth strategy or that these relationships will be on terms favorable to us. Even if we enter into these types of relationships, we cannot assure you that the business associates with which we form relationships will focus adequate resources on selling our products or will be successful in selling them. Some of these arrangements have required or will require that we grant exclusive rights to certain companies in defined territories. These exclusive arrangements could result in our being unable to enter into other arrangements at a time when the business associate with which we form a relationship is not successful in selling our products or has reduced its commitment to marketing our products. In addition, future arrangements may also include the issuance of equity and warrants to purchase our equity, which may have an adverse effect on our stock price. To the extent we enter into partnerships or other business relationships, the failure of these partners or other business associates to assist us with the deployment of our products may adversely affect our results of operations and financial condition.

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We depend on third party suppliers for the development and supply of key raw materials and components for our products.

We use various raw materials and components to construct a fuel cell module, including nickel and stainless steel which are critical to our manufacturing process. We also rely on third-party suppliers for the balance-of-plant components in our products. Suppliers must undergo a qualification process, which takes four to twelve months. We continually evaluate new suppliers, and we are currently qualifying several new suppliers. There are a limited number of suppliers for some of the key components of our products. A supplier’s failure to develop and supply components in a timely manner or to supply components that meet our quality, quantity or cost requirements or our technical specifications, or our inability to obtain alternative sources of these components on a timely basis or on terms acceptable to us could harm our ability to manufacture our SureSource products. In addition, to the extent the processes that our suppliers use to manufacture components are proprietary, we may be unable to obtain comparable components from alternative suppliers.

We do not know whether we will be able to maintain long-term supply relationships with our critical suppliers or secure new long-term supply relationships, or whether such relationships will be on terms that will allow us to achieve our objectives. Our business prospects, results of operations and financial condition could be harmed if we fail to secure long-term relationships with entities that will supply the required components for our SureSource products.

We depend on our intellectual property, and our failure to protect that intellectual property could adversely affect our future growth and success.

Failure to protect our existing intellectual property rights may result in the loss of our exclusivity or the right to use our technologies. If we do not adequately ensure our freedom to use certain technology, we may have to pay others for rights to use their intellectual property, pay damages for infringement or misappropriation, or be enjoined from using such intellectual property. We rely on patent, trade secret, trademark and copyright law to protect our intellectual property. In addition, we have licensed our carbonate fuel cell manufacturing intellectual property to POSCO Energy, and we depend on POSCO Energy to also protect our intellectual property rights as licensed. As of October 31, 2017, we, excluding our subsidiaries, had 92 U.S. patents and 106 patents in other jurisdictions covering our fuel cell technology (in certain cases covering the same technology in multiple jurisdictions), with patents directed to various aspects of our SureSource technology, SOFC technology, PEM fuel cell technology and applications thereof. As of October 31, 2017, we also had 30 patent applications pending in the U.S. and 93 patent applications pending in other jurisdictions. Our U.S. patents will expire between 2018 and 2035, and the current average remaining life of our U.S. patents is approximately 9.2 years. Our subsidiary, Versa Power Systems, Ltd., as of October 31, 2017, had 35 U.S. patents and 75 international patents covering the SOFC technology (in certain cases covering the same technology in multiple jurisdictions), with an average remaining U.S. patent life of approximately 6.8 years. As of October 31, 2017, Versa Power Systems, Ltd. also had 4 pending U.S. patent applications and 14 patent applications pending in other jurisdictions. In addition, our subsidiary, FuelCell Energy Solutions, GmbH, has license rights to use FuelCell Energy’s carbonate fuel cell technology, and, as of October 31, 2017, had 2 U.S. patents and 9 patents outside the U.S. for carbonate fuel cell technology licensed from Fraunhofer IKTS.

Some of our intellectual property is not covered by any patent or patent application and includes trade secrets and other know-how that is not able to be patented, particularly as it relates to our manufacturing processes and engineering design. In addition, some of our intellectual property includes technologies and processes that may be similar to the patented technologies and processes of third parties. If we are found to be infringing third-party patents, we do not know whether we will be able to obtain licenses to use such patents on acceptable terms, if at all. Our patent position is subject to complex factual and legal issues that may give rise to uncertainty as to the validity, scope, and enforceability of a particular patent.

We cannot assure you that any of the U.S. or international patents owned by us or other patents that third parties license to us will not be invalidated, circumvented, challenged, rendered unenforceable or licensed to others, or that any of our pending or future patent applications will be issued with the breadth of claim coverage sought by us, if issued at all. In addition, effective patent, trademark, copyright and trade secret protection may be unavailable, limited or not applied for in certain foreign countries.

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We also seek to protect our proprietary intellectual property, including intellectual property that may not be patented or able to be patented, in part by confidentiality agreements and, if applicable, inventors’ rights agreements with our subcontractors, vendors, suppliers, consultants, strategic partners and employees. We cannot assure you that these agreements will not be breached, that we will have adequate remedies for any breach or that such persons or institutions will not assert rights to intellectual property arising out of these relationships. Certain of our intellectual property has been licensed to us on a non-exclusive basis from third parties that may also license such intellectual property to others, including our competitors. If our licensors are found to be infringing third-party patents, we do not know whether we will be able to obtain licenses to use the intellectual property licensed to us on acceptable terms, if at all.

If necessary or desirable, we may seek extensions of existing licenses or further licenses under the patents or other intellectual property rights of others. However, we can give no assurances that we will obtain such extensions or further licenses or that the terms of any offered licenses will be acceptable to us. The failure to obtain a license from a third party for intellectual property that we use at present could cause us to incur substantial liabilities and to suspend the manufacture or shipment of products or our use of processes requiring the use of that intellectual property.

While we are not currently engaged in any intellectual property litigation, we could become subject to lawsuits in which it is alleged that we have infringed the intellectual property rights of others or commence lawsuits against others who we believe are infringing our rights or violating their agreements to protect our intellectual property. Our involvement in intellectual property litigation could result in significant expense to us, adversely affecting the development of sales of the challenged product or intellectual property and diverting the efforts of our technical and management personnel, whether or not that litigation is resolved in our favor.

Our future success will depend on our ability to attract and retain qualified management, technical, and other personnel.

Our future success is substantially dependent on the continued services and performance of our executive officers and other key management, engineering, scientific, manufacturing and operating personnel, particularly Arthur Bottone, our Chief Executive Officer. The loss of the services of any executive officer, including Mr. Bottone, or other key management, engineering, scientific, manufacturing and operating personnel, could materially adversely affect our business. Our ability to achieve our commercialization plans and to increase production at our manufacturing facility in the future will also depend on our ability to attract and retain additional qualified management, technical, manufacturing and operating personnel. Recruiting personnel for the fuel cell industry is competitive. We do not know whether we will be able to attract or retain additional qualified management, technical, manufacturing and operating personnel. Our inability to attract and retain additional qualified management, technical, manufacturing and operating personnel, or the departure of key employees, could materially and adversely affect our development, commercialization and manufacturing plans and, therefore, our business prospects, results of operations and financial condition. In addition, our inability to attract and retain sufficient management, technical, manufacturing and operating personnel to quickly increase production at our manufacturing facility when and if needed to meet increased demand may adversely impact our ability to respond rapidly to any new product, growth or revenue opportunities.

Our management may be unable to manage rapid growth effectively.

We may rapidly expand our facilities and manufacturing capabilities, accelerate the commercialization of our products and enter a period of rapid growth, which will place a significant strain on our senior management team and our financial and other resources. Any expansion may expose us to increased competition, greater overhead, marketing and support costs and other risks associated with the commercialization of a new product. We would need to obtain sufficient backlog in order to maintain the use of the expanded capacity. Our ability to manage rapid growth effectively will require us to continue to secure adequate sources of capital and financing, improve our operations, improve our financial and management information systems and train, motivate and manage our employees. Difficulties in effectively managing issues presented by such a rapid expansion could harm our business prospects, results of operations and financial condition.

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We may be affected by environmental and other governmental regulation.

We are 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. In addition, it is possible that industry-specific laws and regulations will be adopted covering matters such as transmission scheduling, distribution, and the characteristics and quality of our products, including installation and servicing. These regulations could limit the growth in the use of carbonate fuel cell products, decrease the acceptance of fuel cells as a commercial product and increase our costs and, therefore, the price of our products. Accordingly, compliance with existing or future laws and regulations could have a material adverse effect on our business prospects, results of operations and financial condition.

Utility companies may resist the adoption of distributed generation and could impose customer fees or interconnection requirements on our customers that could make our products less desirable.

Investor-owned utilities may resist adoption of distributed generation fuel cell plants as such plants are disruptive to the utility business model that primarily utilizes large central generation power plants and associated transmission and distribution. On-site distributed generation that is on the customer-side of the electric meter competes with the utility. Distributed generation on the utility-side of the meter generally has power output that is significantly less than central generation power plants and may be perceived by the utility as too small to materially impact its business, limiting its interest. Additionally, perceived technology risk may limit utility interest in stationary fuel cell power plants.

Utility companies commonly charge fees to larger, industrial customers for disconnecting from the electric grid or for having the capacity to use power from the electric grid for back up purposes. These fees could increase the cost to our customers of using our SureSource products and could make our products less desirable, thereby harming our business prospects, results of operations and financial condition.

Several U.S. states have created and adopted, or are in the process of creating, their own interconnection regulations covering both technical and financial requirements for interconnection to utility grids. Depending on the complexities of the requirements, installation of our systems may become burdened with additional costs that might have a negative impact on our ability to sell systems. The Institute of Electrical and Electronics Engineers has been working to create an interconnection standard addressing the technical requirements for distributed generation to interconnect to utility grids. Many parties are hopeful that this standard will be adopted nationally to help reduce the barriers to deployment of distributed generation such as fuel cells; however, this standard may not be adopted nationally thereby limiting the commercial prospects and profitability of our fuel cell systems.

We could be liable for environmental damages resulting from our research, development or manufacturing operations.

Our business exposes us to the risk of harmful substances escaping into the environment, resulting in personal injury or loss of life, damage to or destruction of property, and natural resource damage. Depending on the nature of the claim, our current insurance policies may not adequately reimburse us for costs incurred in settling environmental damage claims, and in some instances, we may not be reimbursed at all. Our business is subject to numerous federal, state, and local laws and regulations that govern environmental protection and human health and safety. We believe that our businesses are operating in compliance in all material respects with applicable environmental laws, however, these laws and regulations have changed frequently in the past and it is reasonable to expect additional and more stringent changes in the future.

Our operations may not comply with future laws and regulations and we may be required to make significant unanticipated capital and operating expenditures. If we fail to comply with applicable environmental laws and regulations, governmental authorities may seek to impose fines and penalties on us or to revoke or deny the issuance or renewal of operating permits and private parties may seek damages from us. Under those circumstances, we might be required to curtail or cease operations, conduct site remediation or other corrective action, or pay substantial damage claims.

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Our products use inherently dangerous, flammable fuels, operate at high temperatures and use corrosive carbonate material, each of which could subject our business to product liability claims.

Our business exposes us to potential product liability claims that are inherent in products that use hydrogen. Our products utilize fuels such as natural gas and convert these fuels internally to hydrogen that is used by our products to generate electricity. The fuels we use are combustible and may be toxic. In addition, our SureSource products operate at high temperatures and use corrosive carbonate material, which could expose us to potential liability claims. Although we have incorporated a robust design and redundant safety features in our power plants, have established comprehensive safety, maintenance, and training programs, follow third-party certification protocols, codes and standards, and do not store natural gas or hydrogen at our power plants, we cannot guarantee that there will not be accidents. Any accidents involving our products or other hydrogen-using products could materially impede widespread market acceptance and demand for our products. In addition, we might be held responsible for damages beyond the scope of our insurance coverage. We also cannot predict whether we will be able to maintain adequate insurance coverage on acceptable terms.

We are subject to risks inherent in international operations.

Since we market our products both inside and outside the U.S., our success depends in part on our ability to secure international customers and our ability to manufacture products that meet foreign regulatory and commercial requirements in target markets. Sales to customers located outside the U.S. accounts for a significant portion of our consolidated revenue. Sales to customers in South Korea represent the majority of our international sales. We have limited experience developing and manufacturing our products to comply with the commercial and legal requirements of international markets. In addition, we are subject to tariff regulations and requirements for export licenses, particularly with respect to the export of some of our technologies. We face numerous challenges in our international expansion, including unexpected changes in regulatory requirements and other geopolitical risks, fluctuations in currency exchange rates, longer accounts receivable requirements and collections, difficulties in managing international operations, potentially adverse tax consequences, restrictions on repatriation of earnings and the burdens of complying with a wide variety of international laws. Any of these factors could adversely affect our results of operations and financial condition.

Although our reporting currency is the U.S. dollar, we conduct our business and incur costs in the local currency of most countries in which we operate. As a result, we are subject to currency translation and transaction risk. Joint ventures or other business arrangements with strategic partners outside of the United States have involved and are expected in the future to involve investments denominated in the local currency. Changes in exchange rates between foreign currencies and the U.S. dollar could affect our net sales and cost of sales and could result in exchange gains or losses. We cannot accurately predict the impact of future exchange rate fluctuations on our results of operations.

We could also expand our business into new and emerging markets, many of which have an uncertain regulatory environment relating to currency policy. Conducting business in such markets could cause our exposure to changes in exchange rates to increase, due to the relatively high volatility associated with emerging market currencies and potentially longer payment terms for our proceeds. Our ability to hedge foreign currency exposure is dependent on our credit profile with financial institutions that are willing and able to do business with us. Deterioration in our credit position or a significant tightening of the credit market conditions could limit our ability to hedge our foreign currency exposure, and therefore, result in exchange gains or losses.

Exports of certain of our products are subject to various export control regulations and may require a license or permission from the U.S. Department of State, the U.S. Department of Energy or other agencies.

As an exporter, we must comply with various laws and regulations relating to the export of products, services and technology from the U.S. and other countries having jurisdiction over our operations. We are subject to export control laws and regulations, including the International Traffic in Arms Regulation (“ITAR”), the Export Administration Regulation (“EAR”), and the Specially Designated Nationals and Blocked Persons List, which generally prohibit U.S. companies and their intermediaries from exporting certain products, importing materials or supplies, or otherwise doing business with restricted countries, businesses or individuals, and require companies to maintain certain policies and procedures to ensure compliance. We are also subject to the Foreign Corrupt Practices Act which prohibits improper payments to foreign governments and their officials by U.S. and other business

39


 

entities. Under these laws and regulations, U.S. companies may be held liable for their actions and actions taken by their strategic or local partners or representatives. If we, or our intermediaries, fail to comply with the requirements of these laws and regulations, or similar laws of other countries, governmental authorities in the United States or elsewhere, as applicable, could seek to impose civil and/or criminal penalties, which could damage our reputation and have a material adverse effect on our business, financial condition and results of operations.

We are also subject to registration under the U.S. State Department’s Directorate of Defense Trade Controls (“DDTC”). Due to the nature of certain of our products and technology, we must obtain licenses or authorizations from various U.S. government agencies such as DDTC or DOE, before we are permitted to sell such products or license such technology outside of the U.S. We can give no assurance that we will continue to be successful in obtaining the necessary licenses or authorizations or that certain sales will not be prevented or delayed. Any significant impairment of our ability to sell products or license technology outside of the U.S. could negatively impact our results of operations, financial condition or liquidity.

We depend on strategic relationships with third parties, and the terms and enforceability of many of these relationships are not certain.

We have entered into strategic relationships with third parties for the design, product development, sale and service of our existing products and products under development, some of which may not have been documented by a definitive agreement. The terms and conditions of many of these relationships allow for termination by the third parties. Termination of any of these relationships could adversely affect our ability to design, develop and distribute these products to the marketplace. We cannot assure you that we will be able to successfully negotiate and execute definitive agreements with any of these third parties, and failure to do so may effectively terminate the relevant relationship.

If we fail to maintain an effective system of internal controls, we may not be able to accurately report our financial results or prevent fraud, which could harm our brand and operating results.

Effective internal controls are necessary for us to provide reliable and accurate financial reports and effectively prevent fraud. We have devoted significant resources and time to comply with the internal control over financial reporting requirements of the Sarbanes-Oxley Act of 2002. In addition, Section 404 under the Sarbanes-Oxley Act of 2002 requires that we assess, and that our auditors attest to, the design and operating effectiveness of our controls over financial reporting. Our compliance with the annual internal control report requirement for each fiscal year will depend on the effectiveness of our financial reporting and data systems and controls. Inferior internal controls could cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our stock and our access to capital.

We are increasingly dependent on information technology and disruptions, failures or security breaches of our information technology infrastructure could have a material adverse effect on our operations.

Information technology is critically important to our business operations. We rely on information technology networks and systems, including the Internet, to process, transmit and store electronic and financial information, to manage a variety of business processes and activities, including production, manufacturing, financial, logistics, sales, marketing and administrative functions. We depend on our information technology infrastructure to communicate internally and externally with employees, customers, suppliers and others. We also use information technology networks and systems to comply with regulatory, legal and tax requirements and to operate our fuel cell power plants. These information technology systems, many of which are managed by third parties or used in connection with shared service centers, may be susceptible to damage, disruptions or shutdowns due to failures during the process of upgrading or replacing software, databases or components thereof, power outages, hardware failures, computer viruses, attacks by computer hackers or other cybersecurity risks, telecommunication failures, user errors, natural disasters, terrorist attacks or other catastrophic events. If any of our significant information technology systems suffer severe damage, disruption or shutdown, and our disaster recovery and business continuity plans do not effectively resolve the issues in a timely manner, our product sales, financial condition and results of operations may be materially and adversely affected, and we could experience delays in reporting our financial

40


 

results, or our fuel cell power plant operations may be disrupted, exposing us to performance penalties under our contracts with customers.

Our results of operations could vary as a result of methods, estimates and judgments we use in applying our accounting policies.

The methods, estimates and judgments we use in applying our accounting policies have a significant impact on our results of operations. Such methods, estimates and judgments are, by their nature, subject to substantial risks, uncertainties and assumptions, and factors may arise over time that could lead us to reevaluate our methods, estimates and judgments.

In future periods, management will continue to reevaluate its estimates for contract margins, service agreements, loss accruals, warranty, performance guarantees, liquidated damages and inventory valuation allowances. Changes in those estimates and judgments could significantly affect our results of operations and financial condition. We may also adopt changes required by the Financial Accounting Standards Board and the Securities and Exchange Commission.

Our stock price has been and could remain volatile.

The market price for our common stock has been and may continue to be volatile and subject to extreme price and volume fluctuations in response to market and other factors, including the following, some of which are beyond our control:

 

failure to meet commercialization milestones;

 

failure to win contracts through competitive bidding processes;

 

the loss of a major customer;

 

variations in our quarterly operating results from the expectations of securities analysts or investors;

 

downward revisions in securities analysts’ estimates or changes in general market conditions;

 

changes in the securities analysts that cover us or failure to regularly publish reports;

 

announcements of technological innovations or new products or services by us or our competitors;

 

announcements by us or our competitors of significant acquisitions, strategic partnerships, joint ventures or capital commitments;

 

additions or departures of key personnel;

 

investor perception of our industry or our prospects;

 

insider selling or buying;

 

demand for our common stock;

 

general technological or economic trends; and,

 

changes in United States or foreign political environment and the passage of laws, including, tax, environmental or other laws, affecting the product development business.

In the past, following periods of volatility in the market price of their stock, many companies have been the subject of securities class action litigation. If we became involved in securities class action litigation in the future, it could result in substantial costs and diversion of management’s attention and resources and could harm our stock price, business prospects, results of operations and financial condition.

41


 

Provisions of Delaware and Connecticut law and of our charter and by-laws and our outstanding securities may make a takeover more difficult.

Provisions in our certificate of incorporation and by-laws and in Delaware and Connecticut corporate law may make it difficult and expensive for a third-party to pursue a tender offer, change in control or takeover attempt that is opposed by our management and board of directors. In addition, certain provisions of the FCE FuelCell Energy, Ltd. Series 1 Preferred Shares, our Series B preferred stock and our Series C Preferred Shares could make it more difficult or more expensive for a third party to acquire us. Public stockholders who might desire to participate in such a transaction may not have an opportunity to do so. These anti-takeover provisions could substantially impede the ability of public stockholders to benefit from a change in control or change in our management and board of directors.

Our amended and restated by-laws provide that the Court of Chancery of the State of Delaware is the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a judicial forum deemed favorable by the stockholder for disputes with us or our directors, officers or employees.

Our amended and restated by-laws provide that the Court of Chancery of the State of Delaware is the exclusive forum for any derivative action or proceeding brought on our behalf, any action asserting a breach of fiduciary duty, any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, our certificate of incorporation or our amended and restated by-laws, any action to interpret, apply, enforce, or determine the validity of our certificate of incorporation or amended and restated by-laws, or any action asserting a claim against us that is governed by the internal affairs doctrine. The choice of forum provision may limit a stockholder’s ability to bring a claim in a judicial forum that the stockholder finds favorable for disputes against us or our directors, officers or other employees, which may discourage such lawsuits against us and our directors, officers and other employees. Alternatively, if a court were to find the choice of forum provision contained in our amended and restated by-laws to be inapplicable or unenforceable in an action, we may incur additional costs associated with resolving such action in other jurisdictions, which could adversely affect our business and financial condition.

The implementation of our business plan and strategy will require additional capital.

The implementation of our business plan and strategy requires additional capital. If we are unable to raise additional capital in the amounts required, or at all, we will not be able to successfully implement our business plan and strategy. There can be no guarantee that we will be able to raise such additional capital at the times required or in the amounts required for the implementation of our business plan and strategy. In addition, the recent change to a more capital-intensive business model increases the risks of our being able to successfully implement our plans, if we do not raise additional capital in the amounts required. If we are unable to raise additional capital, our business, operations and prospects could be materially and adversely affected.

We will need to raise additional capital, and such capital may not be available on acceptable terms, if at all. If we do raise additional capital utilizing equity, existing stockholders will suffer dilution. If we do not raise additional capital, our business could fail or be materially and adversely affected.

We will need to raise additional funds in debt and equity financings, and these funds may not be available to us when we need them or on acceptable terms, if at all. Such additional financings could be significant. If we raise additional funds through further issuances of our common stock, or securities convertible or exchangeable into shares of our common stock, into the public market, including shares of our common stock issued upon exercise of options or warrants, you could suffer significant dilution, and any new equity securities we issue could have rights, preferences and privileges superior to those of our then-existing capital stock. Any debt financing secured by us in the future could involve restrictive covenants relating to our capital raising activities and other financial and operational matters, which may make it more difficult for us to obtain additional capital and to pursue business opportunities. If we cannot raise additional funds when we need them, our business and prospects could fail or be materially and adversely affected. In addition, if additional funds are not secured in the future, we will have to modify, reduce, defer or eliminate parts of our present and anticipated future projects.

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Future sales of substantial amounts of our common stock could affect the market price of our common stock.

Future sales of substantial amounts of our common stock, or securities convertible or exchangeable into shares of our common stock, into the public market, including shares of our common stock issued upon exercise of options or warrants, or perceptions that those sales could occur, could adversely affect the prevailing market price of our common stock and our ability to raise capital in the future.

We may be subject to actions for rescission or damages or other penalties in connection with certain sales of shares of our common stock in the open market.

Between August 2005 and April 2017, we sold shares of our common stock pursuant to a series of “at-the-market” sales plans. The shares sold pursuant to these sales plans represented a portion of the shares registered by us pursuant to shelf registration statements we filed with the SEC during this time period. While we reported the actual shares sold and proceeds, net of fees, of sales made during each fiscal quarter pursuant to the sales plans in our annual and quarterly reports on Forms 10-K and 10-Q, we did not file or deliver prospectus supplements at the time of or prior to making these sales. Accordingly, these sales may not have been in compliance with applicable federal and/or state securities laws, and the purchasers of such shares may have rescission rights or claims for damages. In addition, to the extent that these sales were not in compliance with applicable federal and/or state securities laws, we may be subject to penalties imposed by the SEC and/or state securities agencies. If purchasers successfully seek rescission and/or damages, and/or the SEC and/or state securities agencies impose financial penalties on us which are not covered by insurance, we may not have sufficient resources to make the necessary payments, and any such claims, damages or penalties could have a material adverse effect on our stock price, business prospects, results of operations, and financial condition. Although we believe we would have defenses to such claims or actions if brought, we are unable to predict the likelihood of any claims or actions being brought against us, or the amount of any damages or financial penalties which could be sought against us, or the extent to which any such financial exposure would be covered by insurance.

The rights of the Series 1 Preferred Shares and Series B preferred stock could negatively impact our cash flows and could dilute the ownership interest of our stockholders.

The terms of the Series 1 Preferred Shares issued by FCE FuelCell Energy, Ltd. (“FCE Ltd.”), our wholly-owned, indirect subsidiary, provide rights to the holder, Enbridge Inc. (“Enbridge”), which could negatively impact us.

The provisions of the Series 1 Preferred Shares require that FCE Ltd. make annual payments totaling Cdn. $1,250,000, including (i) annual dividend payments of Cdn. $500,000 and (ii) annual return of capital payments of Cdn. $750,000. These payments will end on December 31, 2020. Additional dividends accrue on cumulative unpaid dividends at a 1.25% quarterly rate, compounded quarterly, until payment thereof. On December 31, 2020, the amount of all accrued and unpaid dividends on the Series 1 Preferred Shares of Cdn. $21.1 million and the balance of the principal redemption price of Cdn. $4.4 million shall be paid to the holders of the Series 1 Preferred Shares. FCE Ltd. has the option of making dividend payments in the form of common stock or cash under the terms of the Series 1 Preferred Shares.

We are also required to issue common stock to the holder of the Series 1 Preferred Shares if and when the holder exercises its conversion rights. The number of shares of common stock that we may issue upon conversion could be significant and dilutive to our existing stockholders. For example, assuming the holder of the Series 1 Preferred Shares exercises its conversion rights after July 31, 2020 and assuming our common stock price is $2.19 (our common stock closing price on October 31, 2017) and an exchange rate of U.S. $1.00 to Cdn. $1.29 at the time of conversion, we would be required to issue approximately 1,657,928 shares of our common stock.

The terms of the Series B preferred stock also provide rights to their holders that could negatively impact us. Holders of the Series B preferred stock are entitled to receive cumulative dividends at the rate of $50 per share per year, payable either in cash or in shares of our common stock. To the extent the dividend is paid in shares, additional issuances could be dilutive to our existing stockholders and the sale of those shares could have a negative impact on the price of our common stock. A share of our Series B preferred stock, after giving effect to the December 3, 2015 reverse stock split, may be converted at any time, at the option of the holder, into 7.0922 shares of our common stock (which is equivalent to an initial conversion price of $141 per share), plus cash in lieu of fractional shares.

43


 

Furthermore, the conversion rate applicable to the Series B preferred stock is subject to additional adjustment upon the occurrence of certain events.

We may not be able to make cash payments to redeem the Series C Preferred Shares.

We have the obligation to make bimonthly redemption payments on the Series C Preferred Shares commencing on November 1, 2017. These mandatory redemption payments may be made, at our option, in cash or in shares of our common stock or in a combination of cash and shares of our common stock, except that our right to make payment in shares of common stock is dependent upon our satisfying certain equity conditions. Among other things, these equity conditions include our continued listing on the NASDAQ Global Market or another permitted exchange and our stock maintaining certain minimum average prices and trading volumes during the applicable measurement period. If we cannot satisfy the equity conditions, we will not be able to make our bimonthly mandatory redemption payments in stock, and we would be forced to make such bimonthly payments in cash. We may not have sufficient cash resources at the applicable time to make those cash payments, or to make such cash payments in full. In addition, certain such cash payments may not permitted under the terms of our existing or future indebtedness or may cause us to fail to satisfy financial maintenance covenants.

Further, any failure to pay any amounts due to the holders of the Series C Preferred Shares, as well as certain other “triggering events,” including, without limitation, our failure to timely deliver shares, our suspension of trading, our failure to keep reserved for issuance an adequate number of shares of common stock to cover conversion of the Series C Preferred Shares, and breaches of certain covenants that are not timely cured, where a cure period is permitted, would permit the holders of the Series C Preferred Shares to require us to redeem such Series C Preferred Shares in cash at a price equal to the greater of (i) 125% of the stated value of the Series C Preferred Shares being redeemed plus accrued dividends, if any, and (ii) the market value of the number of shares issuable on conversion of the Series C Preferred Shares, valued at the greatest closing sales price during the period from the date immediately before the triggering event through the date we make the redemption payment. However, if we are actually delisted from The NASDAQ Global Market, without obtaining a listing on another national securities exchange, it would constitute a “triggering event” under the Certificate of Designations for the Series C Preferred Shares and would also cause a failure of the equity conditions. Thus, if we fail to maintain trading or listing, as applicable, or if for any other reason we are required to repurchase the Series C Preferred Shares in cash prior to maturity, no assurance can be given that we would have the cash or financial resources available to us to make such a payment, and such an acceleration could have a material adverse effect on our business, results of operations and financial condition.

The Series C Preferred Shares rank senior to our common stock with respect to dividends, distributions and payments upon liquidation.

The rights of the holders of the Series C Preferred Shares rank senior to the obligations to our common stockholders and our other preferred stockholders. Upon our liquidation, the holders of Series C Preferred Shares are entitled to receive an amount per Series C Preferred Share equal to the greater of (A) the stated value thereof on the date of such payment, plus accrued dividends, if any and (B) the amount per share such holder would receive if such holder converted such Series C Preferred Shares into common stock immediately prior to the date of such payment. Further, the holders of Series C Preferred Shares have the right to participate in any payment of dividends or other distributions made to the holders of common stock to the same extent as if they had converted such Series C Preferred Shares. The existence of such a senior security could have an adverse effect on the value of our common stock.

Holders of the Series C Preferred Shares have rights that may restrict our ability to operate our business.

Under the Certificate of Designations establishing the terms of the Series C Preferred Shares, we are subject to certain covenants that limit our ability to create new series of preferred stock, other than series junior to the Series C Preferred Shares with redemption occurring after the maturity date of the Series C Preferred Shares, and our ability to incur certain indebtedness. Such restrictions may have an adverse effect on our ability to operate our business while the Series C Preferred Shares are outstanding.

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Our common stockholders may experience significant dilution upon the issuance of common stock upon conversion of or redemption payments under the Series C Preferred Shares.

The issuance of common stock as mandatory redemption payments or upon conversion of some or all of the Series C Preferred Shares will dilute the ownership interests of existing holders of shares of our common stock. If the initial aggregate stated value of the Series C Preferred Shares is converted into our common stock at its initial conversion price, we would issue 18,206,522 shares of common stock upon their conversion (without giving effect to any limitation on conversions). This excludes the effect of any common stock we may issue in lieu of paying bimonthly redemption amounts in cash, which may be made at a price lower than the initial conversion price. The initial conversion price of the Series C Preferred Shares is adjustable based on certain events, including in the event of a triggering event and in the event we effect a stock split, combination or similar transaction, to reflect the proportionate (adjusted) trading prices of our common stock before and after the effective date.

Item 1B.

UNRESOLVED STAFF COMMENTS

None.

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Item 2.

PROPERTIES

The following is a summary of our offices and locations:

 

 

 

 

 

Square

 

 

Lease

Expiration

Location

 

Business Use

 

Footage

 

 

Dates

Danbury, Connecticut

 

Corporate Headquarters, Research and

Development, Sales, Marketing, Service,

Purchasing and Administration

 

 

72,000

 

 

Company owned

Torrington, Connecticut

 

Manufacturing and Administrative

 

167,000(1)

 

 

December 2030(2)

Taufkirchen, Germany

 

Manufacturing and Administrative

 

 

20,000

 

 

June 2018

Calgary, Canada

 

Research and Development

 

 

32,220

 

 

January 2020

 

(1)

The Company substantially completed its expansion of the Torrington facility during fiscal year 2017 which added an additional 102,000 square feet for a total of 167,000 square feet. See Note 10 of the Notes to Consolidated Financial Statements for additional information.

(2)

In November 2015, this lease was extended until December of 2030, with the option to extend for three additional five-year periods thereafter.

Item 3.

LEGAL PROCEEDINGS

We are involved in legal proceedings, claims and litigation arising out of the ordinary conduct of our business. Although we cannot assure the outcome, management presently believes that the result of such legal proceedings, either individually, or in the aggregate, will not have a material adverse effect on our consolidated financial statements, and no material amounts have been accrued in our consolidated financial statements with respect to these matters.

Item 4.

Mine Safety Disclosures

Not applicable.

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PART II

Item 5.

MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

FuelCell Common Stock

Our common stock has been publicly traded since June 25, 1992. Our common stock trades under the symbol “FCEL” on the Nasdaq Global Market. The following table sets forth the high and low sale prices for our common stock for the periods indicated as reported by the Nasdaq Global Market during the indicated quarters.

 

 

 

Common

Stock Price

 

 

 

High

 

 

Low

 

First quarter 2018 (through January 2, 2018)

 

$

2.31

 

 

$

1.50

 

Year Ended October 31, 2017

 

 

 

 

 

 

 

 

First Quarter

 

$

3.40

 

 

$

1.40

 

Second Quarter

 

$

1.98

 

 

$

1.00

 

Third Quarter

 

$

1.79

 

 

$

0.80

 

Fourth Quarter

 

$

2.49

 

 

$

1.33

 

Year Ended October 31, 2016

 

 

 

 

 

 

 

 

First Quarter

 

$

12.24

 

 

$

4.51

 

Second Quarter

 

$

8.08

 

 

$

4.56

 

Third Quarter

 

$

8.88

 

 

$

5.02

 

Fourth Quarter

 

$

5.67

 

 

$

3.35

 

 

In December 2017, the number of authorized shares of the Company’s common stock was increased from approximately 125 million shares to 225 million shares by a vote of the holders of a majority of the outstanding shares of the Company’s common stock. In April 2017, the number of authorized shares of the Company’s common stock was increased from approximately 75 million to 125 million by vote of the holders of a majority of the outstanding shares of the Company’s common stock. In April 2016, the number of authorized shares of the Company's common stock was increased from approximately 39.6 million to 75 million by vote of the holders of a majority of the outstanding shares of the Company’s common stock.

On January 2, 2018, the closing price of our common stock on the Nasdaq Global Market was $1.74 per share. As of January 2, 2018, there were 185 holders of record of our common stock. This does not include the number of persons whose stock is in nominee or “street” name accounts through brokers.

We have never paid a cash dividend on our common stock and do not anticipate paying any cash dividends on our common stock in the foreseeable future. In addition, the terms of our Series B preferred shares prohibit the payment of dividends on our common stock unless all dividends on the Series B preferred stock have been paid in full.

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Performance Graph

The following graph compares the annual change in the Company's cumulative total stockholder return on its common stock for the five fiscal years ended October 31, 2017 with the cumulative stockholder total return on the Russell 2000 Index, a peer group consisting of Standard Industry Classification ("SIC) Group Code 3690 companies listed on the Nasdaq Global Market and New York Stock Exchange and a customized 12 company peer group. It assumes $100.00 invested on October 31, 2012 with dividends reinvested.

 

Certain Prior Sales of Common Stock

 

Between August 2005 and April 2017, we sold shares of our common stock pursuant to a series of “at-the-market” sales plans approved by our Audit and Finance Committee and/or our Board of Directors. The intended use of proceeds from the sale of these shares was for general corporate purposes, to pay dividend and interest payments on shares of preferred stock of the Company and its subsidiaries, and to pay interest on our convertible notes outstanding at the time of the sales. The shares sold pursuant to the sales plans represented a portion of the shares registered by us pursuant to shelf registration statements we filed with the SEC during this time period. We previously reported the actual shares sold and proceeds, net of fees, of such sales during each fiscal quarter pursuant to the sales plans in our annual and quarterly reports on Forms 10-K and 10-Q filed with the SEC. Between August 2005 and April 2017, we issued and sold a total of 17.7 million shares of our common stock, for aggregate gross proceeds of $148.5 million and aggregate net proceeds (after aggregate selling commissions of $0.9 million) of $147.6 million pursuant to the “at-the-market” sales plans.

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The following table shows the average sale price per share, the average commission per share, and the average per share proceeds to us (with such averages based on all sales made pursuant to the sales plans between August 2005 and April 2017):

 

 

 

Per Share

 

Average sale price

 

$

8.38

 

Average commission

 

$

0.05

 

Average proceeds to us

 

$

8.33

 

 

The following table provides information regarding the date of, and the maximum number of shares authorized for sale under, each sales plan approved by our Board of Directors and/or our Audit and Finance Committee:

 

Date of Board/Audit and Finance Committee Approval of Sales Plan

 

Maximum Number of Shares Authorized for Sale Pursuant to Sales Plan

 

6/17/2005

 

 

158,333

 

1/22/2007

 

 

500,000

 

1/11/2010

 

 

500,000

 

9/18/2013

 

 

583,333

 

3/26/2014

 

 

583,333

 

6/18/2014

 

 

833,333

 

9/23/2014

 

 

416,666

 

12/17/2014

 

 

416,666

 

4/1/2015

 

 

1,000,000

 

9/4/2015

 

 

1,000,000

 

12/16/2015

 

 

4,500,000

 

6/6/2016

 

 

8,700,000

 

 

Fidelity Capital Markets or one of its affiliated entities (“Fidelity”) served as our agent for these sales and was authorized, from time to time, to sell up to a specified number of shares of our common stock within certain parameters provided by us to Fidelity from time to time. These parameters included: (i) limitations on the aggregate number of shares to be sold during a particular period; (ii) a target number of shares to be sold on a daily basis, including, in some instances, target ranges of shares to be sold within specified price ranges; (iii) minimum per share prices below which sales could not be made; (iv) trading limits based on a specified percentage of the average daily trading volume or the average trading volume over the duration of the particular sales plan; (v) restrictions requiring Fidelity to cease sales on a day on which the stock price dropped by (or more than) a specified percentage; (vi) authority/discretion to exceed certain parameters upon the occurrence of specified events (e.g., authority to sell more than the target number of shares, up to a specified number of shares, on a day on which the stock price went up by (or more than) a specified percentage); (vii) authority/discretion to cease or otherwise adjust sales based on market conditions; and (viii) the dates or events upon which a particular plan would terminate. Sales under the sales plans could be terminated at any time by us or by Fidelity.

Fidelity was not required to sell any specific number of shares of our common stock during any particular period and was not required to purchase any shares of our common stock. Shares sold by Fidelity under the sales plans were sold on the open market (on or through The Nasdaq Stock Market) at the then-prevailing market prices for our common stock. In connection with these sales, we paid Fidelity commissions ranging from $0.01 per share to $0.36 per share, which were deducted from the proceeds we received from the sale of the shares. The number of shares sold and the commission per share we paid to Fidelity have been adjusted to reflect our 1 for 12 reverse stock split effective on December 3, 2015.

There was no arrangement for funds to be received in an escrow, trust or similar arrangement.

While we did not enter into a typical “at-the-market” sales agreement with Fidelity, we do have a custody agreement with Fidelity pursuant to which we have agreed, subject to certain limitations on liability, to provide indemnification to Fidelity, its affiliates, and their respective directors, officers, employees, members and agents, against losses and liabilities arising out of or attributable to, among other things, our breach or violation of applicable laws, rules or

49


 

regulations, any actions taken or omitted to be taken by Fidelity based on instructions received from us or our agents, or misstatements or omissions in documents filed by us with governmental authorities. We have also agreed to reimburse Fidelity for other out-of-pocket expenses incurred under the custody agreement. In connection with these sales of common stock on our behalf, Fidelity could nonetheless be deemed to have been an “underwriter” within the meaning of the Securities Act of 1933, as amended, and the compensation paid to Fidelity could be deemed to have been underwriting commissions or discounts.

Fidelity has provided, and may in the future provide, various other custody, recordkeeping, and financial services for us and our affiliates, for which services Fidelity has received, and may in the future receive, customary fees.

FuelCell Redeemable Preferred Stock

The Company is authorized to issue up to 250,000 shares of preferred stock, par value $0.01 per share, issuable in one or more series of which shares to date have been issued and designated as Series C Convertible Preferred Stock and 5% Series B Cumulative Convertible Perpetual Preferred Stock.

Series C Preferred Shares

We issued an aggregate of 33,500 shares of our Series C Convertible Preferred Stock ( “Series C Preferred Stock” and, such shares, the “Series C Preferred Shares”), $0.01 par value and $1,000 stated value per share for net proceeds of $27.9 million on September 5, 2017. Each share of Series C Preferred Stock was sold at a price of $895.52 for gross proceeds of approximately $30.0 million.  As of October 31, 2017, there were 33,300 shares of Series C Preferred Stock issued and outstanding.

The Series C Preferred Shares are convertible into shares of common stock, subject to the beneficial ownership limitations provided in the Certificate of Designations for the Series C Preferred Stock (the “Certificate of Designations”), at a conversion price equal to $1.84 per share of common stock (“Conversion Price”), subject to adjustment as provided in the Certificate of Designations. In the event of a triggering event, as defined in the Certificate of Designations, the Series C Preferred Shares are convertible into shares of common stock at a conversion price the lower of $1.84 per share and 85% of the lowest volume weighted average price (“VWAP”) of the common stock of the five Trading Days (as such term is defined in the Certificate of Designations) immediately prior to delivery of the applicable conversion notice. The holders will be prohibited from converting Series C Preferred Shares into shares of common stock if, as a result of such conversion, such holder, together with its affiliates, would own more than 8.99% of the total number of shares of common stock then issued and outstanding. Each holder has the right to increase its maximum percentage up to 9.99% upon 60 days’ notice to the Company.

On November 1, 2017 and on the sixteenth day and first day of each calendar month thereafter until March 1, 2019, subject to extension in certain circumstances (the “Maturity Date”), inclusive, the Company will redeem the stated value of Series C Preferred Shares in thirty-three equal installments of $1.0 million (each bimonthly amount, an “Installment Amount” and the date of each such payment, an “Installment Date”). The holders will have the ability to defer Installment payments, but not beyond the Maturity Date. In addition, during each period commencing on the 11th trading day prior to an Installment Date and prior to the immediately subsequent Installment Date, the holders may elect to accelerate the conversion of Series C Preferred Shares at then applicable installment conversion price, provided that the holders may not elect to effect any such acceleration during such installment period if either (x) in the aggregate, all the accelerations in such installment period exceeds the sum of three other Installment Amounts, or (y) the number of Series C Preferred Shares subject to prior accelerations exceeds in the aggregate twelve Installment Amounts.

Subject to certain conditions as provided in the Certificate of Designations, the Company may elect to pay the Installment Amounts in cash or shares of common stock or in a combination of cash and shares of common stock.

Installment Amounts paid in shares will be that number of shares of common stock equal to (a) the applicable Installment Amount, to be paid in common stock divided by (b) the least of (i) the then existing conversion price, (ii) 87.5% of the VWAP of the common stock on the trading day immediately prior to the applicable Installment Date, and (iii) 87.5% of the arithmetic average of the two lowest VWAPs of the common stock during the ten consecutive

50


 

Trading Day period ending and including the Trading Day immediately prior to the applicable Installment Date as applicable, provided that the Company meets standard equity conditions. The Company shall make such election no later than the eleventh trading day immediately prior to the applicable Installment Date.

If the Company elects or is required to effect an Installment Amount in whole or in part in cash, the amount paid will be equal to 108%of the applicable Installment Amount.

Each holder of the Series C Preferred Shares shall be entitled to receive dividends (i) if no triggering event, as defined in the Certificate of Designations, has occurred and is continuing when and as declared by the Board of Directors, in its sole and absolute discretion or (ii) if a triggering event has occurred and until such triggering event has been cured, a dividend of 15% per annum based on the holder’s outstanding number of Series C Preferred Shares multiplied by the stated value. There were no triggering events or dividends declared in fiscal year 2017.

In the event of a triggering event, as defined in the Certificate of Designations, the holders of the Series C Preferred Shares can force redemption at a price equal to the greater of (i) the conversion amount to be redeemed multiplied by 125% and (ii) the product of (X) the Conversion Rate with respect to the Conversion Amount in effect at such time as such Holder delivers a Triggering Event Redemption Notice multiplied by (Y) the greatest Closing Sale Price of the common stock on any Trading Day during the period commencing on the date immediately preceding such Triggering Event and ending on the date the Company makes the entire payment required.

In the event of the Company’s liquidation, dissolution, or winding up, prior to distribution to holders of securities ranking junior to the Series C Preferred Shares, holders of Series C Preferred Shares will be entitled to receive the amount of cash, securities or other property equal to the greater of (A) the stated value thereof on the date of such payment plus accrued dividends, if any and (B) the amount per share such holder would receive if such holder converted such Series C Preferred Shares into common stock immediately prior to the date of such payment.

Shares of Series C Preferred Stock rank with respect to dividend rights and rights upon our liquidation, winding up or dissolution:

 

senior to shares of our common stock;

 

junior to our debt obligations;

 

junior to our outstanding Series B Preferred Stock; and

 

effectively junior to our subsidiaries’ (i) existing and future liabilities and (ii) capital stock held by others.

The holders of the Series C Preferred Shares have no voting rights, except as required by law. Any amendment to the Company’s certificate of incorporation, bylaws or certificate of designation that adversely affects the powers, preferences and rights of the Series C Preferred Shares requires the approval of the holders of a majority of the Series C Preferred Shares then outstanding.

There is no established public trading market for the Series C Preferred Shares, and the Company does not expect a market to develop for the Series C Preferred Shares. The Series C Preferred Shares will not be listed on Nasdaq or any other exchange or trading market. The Company does not plan on making an application to list the Series C Preferred Shares on Nasdaq, any other national securities exchange or any other nationally recognized trading system.

Class A Cumulative Redeemable Exchangeable Preferred Shares (the “Series 1 Preferred Shares”)

We have 1,000,000 Class A Cumulative Redeemable Exchangeable Preferred Shares (the “Series 1 Preferred Shares”) issued and outstanding. The Series 1 Preferred Shares were issued by FCE Ltd., one of our wholly-owned subsidiaries. We have guaranteed the obligations of FCE Ltd. under the Series 1 Preferred Shares.

On March 31, 2011 and April 1, 2011, the Company entered into agreements with Enbridge to modify the provisions of the Series 1 Preferred Shares of FCE Ltd. Enbridge is the sole holder of the Series 1 Preferred Shares. Consistent

51


 

with the previous Series 1 Preferred Share agreement, FuelCell Energy continues to guarantee the return of principal and dividend obligations of FCE Ltd. to the holders of Series 1 Preferred Shares under the modified agreement.

The terms of the Series 1 Preferred Shares require (i) annual dividend payments of Cdn. $500,000 and (ii) annual return of capital payments of Cdn. $750,000. These payments commenced on March 31, 2011 and will end on December 31, 2020. Dividends accrue at a 1.25% quarterly rate on the unpaid principal balance, and additional dividends will accrue on the cumulative unpaid dividends (inclusive of the Cdn. $12.5 million unpaid dividend balance as of the modification date) at a rate of 1.25% per quarter, compounded quarterly. On December 31, 2020, the amount of all accrued and unpaid dividends on the Series 1 Preferred Shares of Cdn. $21.1 million and the balance of the principal redemption price of Cdn. $4.4 million shall be paid to the holders of the Series 1 Preferred Shares. FCE Ltd. has the option of making dividend payments in the form of common stock or cash under the terms of the Series 1 Preferred Shares.

In addition to the above, the significant terms of the Series 1 Preferred Shares include the following:

 

Voting Rights —The holders of the Series 1 Preferred Shares are not entitled to any voting rights.

 

Dividends — Dividend payments can be made in cash or common stock of the Company, at the option of FCE Ltd., and if common stock is issued it may be unregistered. If FCE Ltd. elects to make such payments by issuing common stock of the Company, the number of common shares is determined by dividing the cash dividend obligation by 95% of the volume average price in U.S. dollars at which board lots of the common shares have been traded on NASDAQ during the 20 consecutive trading days preceding the end of the calendar quarter for which such dividend in common shares is to be paid converted into Canadian dollars using the Bank of Canada’s noon rate of exchange on the day of determination.

 

Redemption — The Series 1 Preferred Shares are redeemable by FCE Ltd. for Cdn. $25.00 per share less any amounts paid as a return of capital in respect of such share plus all unpaid dividends and accrued interest. Holders of the Series 1 Preferred Shares do not have any mandatory or conditional redemption rights.

 

Liquidation or Dissolution — In the event of the liquidation or dissolution of FCE Ltd., the holders of Series 1 Preferred Shares will be entitled to receive Cdn. $25.00 per share less any amounts paid as a return of capital in respect of such share plus all unpaid dividends and accrued interest. The Company has guaranteed any liquidation obligations of FCE Ltd.

 

Exchange Rights — A holder of Series 1 Preferred Shares has the right to exchange such shares for fully paid and non-assessable common stock of the Company at the following exchange prices (after giving effect to the December 3, 2015 reverse stock split):

 

Cdn. $1,664.52 per share of our common stock after July 31, 2015 until July 31, 2020; and

 

at any time after July 31, 2020, at a price equal to 95% of the then current market price (in Cdn.$) of shares of our common stock at the time of conversion.

For example, assuming the holder of the Series 1 Preferred Shares exercises its conversion rights after July 31, 2020 and assuming our common stock price is $2.19 (our common stock closing price on October 31, 2017) and an exchange rate of U.S. $1.00 to Cdn. $1.29 (exchange rate on October 31, 2017) at the time of conversion, we would be required to issue approximately 1,657,928 shares of our common stock.

Series B Preferred Stock

We have 105,875 shares of our 5% Series B Cumulative Convertible Perpetual Preferred Stock (Liquidation Preference $1,000.00 per share) (“Series B Preferred Stock”) authorized for issuance. As of October 31, 2017 and 2016, there were 64,020 shares of Series B Preferred Stock issued and outstanding. The shares of our Series B Preferred Stock and the shares of our common stock issuable upon conversion of the shares of our Series B Preferred Stock are covered by a registration rights agreement. The following is a summary of certain provisions of our Series B Preferred Stock.

52


 

Ranking

Shares of Series B Preferred Stock rank with respect to dividend rights and rights upon our liquidation, winding up or dissolution:

 

senior to shares of our common stock;

 

junior to our debt obligations; and

 

effectively junior to our subsidiaries’ (i) existing and future liabilities and (ii) capital stock held by others.

Dividends

The Series B Preferred Stock pays cumulative annual dividends of $50.00 per share which are payable quarterly in arrears on February 15, May 15, August 15 and November 15. Unpaid accumulated dividends do not bear interest.

The dividend rate is subject to upward adjustment as set forth in the Certificate of Designation if we fail to pay, or to set apart funds to pay, any quarterly dividend. The dividend rate is also subject to upward adjustment as set forth in the Registration Rights Agreement entered into with the Initial Purchasers if we fail to satisfy our registration obligations with respect to the Series B Preferred Stock (or the underlying common shares) under the Registration Rights Agreement.

No dividends or other distributions may be paid or set apart for payment on our common shares (other than a dividend payable solely in shares of a like or junior ranking) unless all accumulated and unpaid Series B Preferred Stock dividends have been paid or funds or shares of common stock have been set aside for payment of accumulated and unpaid Series B Preferred Stock dividends.

The dividend on the Series B Preferred Stock may be paid in cash; or at the option of the Company, in shares of our common stock, which will be registered pursuant to a registration statement to allow for the immediate sale of these common shares in the public market. Dividends of $3.2 million were paid in each of the years ended October 31, 2017, 2016 and 2015. There were no cumulative unpaid dividends as of October 31, 2017 and 2016.

Liquidation

The Series B Preferred Stock stockholders are entitled to receive, in the event that we are liquidated, dissolved or wound up, whether voluntarily or involuntarily, $1,000.00 per share plus all accumulated and unpaid dividends to the date of that liquidation, dissolution, or winding up (“Liquidation Preference”). Until the holders of Series B Preferred Stock receive their Liquidation Preference in full, no payment will be made on any junior shares, including shares of our common stock. After the Liquidation Preference is paid in full, holders of the Series B Preferred Stock will not be entitled to receive any further distribution of our assets. As of October 31, 2017 and 2016, the Series B Preferred Stock had a Liquidation Preference of $64.0 million.

Conversion Rights

Each Series B Preferred Stock share may be converted at any time, at the option of the holder, into 7.0922 shares of our common stock, which is equivalent to an initial conversion price of $141.00 per share plus cash in lieu of fractional shares. The conversion rate is subject to adjustment upon the occurrence of certain events as described in the Certificate of Designation. The conversion rate is not adjusted for accumulated and unpaid dividends. If converted, holders of Series B Preferred Stock do not receive a cash payment for all accumulated and unpaid dividends; rather, all accumulated and unpaid dividends are canceled.

We may, at our option, cause shares of Series B Preferred Stock to be automatically converted into that number of shares of our common stock that are issuable at the then prevailing conversion rate. We may exercise our conversion right only if the closing price of our common stock exceeds 150% of the then prevailing conversion price ($141.00 per share as of October 31, 2017) for 20 trading days during any consecutive 30 trading day period, as described in the Certificate of Designation.

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Redemption

We do not have the option to redeem the shares of Series B Preferred Stock. However, holders of the Series B Preferred Stock can require us to redeem all or part of their shares at a redemption price equal to the Liquidation Preference of the shares to be redeemed in the case of a “fundamental change” (as described in the Certificate of Designation).

We may, at our option, elect to pay the redemption price in cash or, in shares of our common stock valued at a discount of 5% from the market price of shares of our common stock, or any combination thereof. Notwithstanding the foregoing, we may only pay such redemption price in shares of our common stock that are registered under the Securities Act of 1933 and eligible for immediate sale in the public market by non-affiliates of the Company.

Voting Rights

Holders of Series B Preferred Stock currently have no voting rights; however, holders may receive certain voting rights, as described in the Certificate of Designation, if (1) dividends on any shares of Series B Preferred Stock, or any other class or series of stock ranking on a parity with the Series B Preferred Stock with respect to the payment of dividends, shall be in arrears for dividend periods, whether or not consecutive, for six calendar quarters or (2) we fail to pay the redemption price, plus accrued and unpaid dividends, if any, on the redemption date for shares of Series B Preferred Stock following a fundamental change.

So long as any shares of Series B Preferred Stock remain outstanding, we will not, without the consent of the holders of at least two-thirds of the shares of Series B Preferred Stock outstanding at the time (voting separately as a class with all other series of preferred stock, if any, on parity with our Series B Preferred Stock upon which like voting rights have been conferred and are exercisable) issue or increase the authorized amount of any class or series of shares ranking senior to the outstanding shares of the Series B Preferred Stock as to dividends or upon liquidation. In addition, we will not, subject to certain conditions, amend, alter or repeal provisions of our certificate of incorporation, including the Certificate of Designation relating to the Series B Preferred Stock, whether by merger, consolidation or otherwise, so as to adversely amend, alter or affect any power, preference or special right of the outstanding shares of Series B Preferred Stock or the holders thereof without the affirmative vote of not less than two-thirds of the issued and outstanding Series B Preferred Stock shares.

Equity Compensation Plan Information

See Part III, Item 12 for information regarding securities authorized for issuance under our equity compensation plans.

Stock Repurchases

The following table sets forth information with respect to purchases made by us or on our behalf of our common stock during the periods indicated:

 

Period

 

Total

Number of

Shares

Purchased (1)

 

 

Average

Price Paid

per Share

 

 

Total Number

of Shares

Purchased as

Part of

Publicly

Announced

Programs

 

 

Maximum

Number of

Shares that

May Yet be

Purchased

Under the

Plans or

Programs

 

August 1 – August 31

 

 

1,296

 

 

$

1.53

 

 

 

 

 

 

 

September 1 – September 30

 

370

 

 

$

1.60

 

 

 

 

 

 

 

October 1 – October 31

 

 

29,392

 

 

$

2.19

 

 

 

 

 

 

 

Total

 

 

31,058

 

 

$

1.77

 

 

 

 

 

 

 

 

(1)

Includes only shares that were surrendered by employees to satisfy statutory tax withholding obligations in connection with the vesting of stock-based compensation awards.

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Item 6.

SELECTED FINANCIAL DATA

The selected consolidated financial data presented below as of the end of each of the years in the five-year period ended October 31, 2017 have been derived from our audited consolidated financial statements together with the notes thereto. We have no discontinued operations.  The data set forth below is qualified by reference to, and should be read in conjunction with our consolidated financial statements and their notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this Annual Report on Form 10-K.

Consolidated Statement of Operations Data:

(Amounts presented in thousands, except for per share amounts)

 

 

 

2017

 

 

2016

 

 

2015

 

 

2014

 

 

2013

 

Revenues:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

$

43,047

 

 

$

62,563

 

 

$

128,595

 

 

$

136,842

 

 

$

145,071

 

Service and license

 

 

27,050

 

 

 

31,491

 

 

 

21,012

 

 

 

25,956

 

 

 

28,141

 

Generation

 

 

7,233

 

 

 

1,267

 

 

 

 

 

 

 

 

 

 

Advanced Technologies

 

 

18,336

 

 

 

12,931

 

 

 

13,470

 

 

 

17,495

 

 

 

14,446

 

Total revenues

 

 

95,666

 

 

 

108,252

 

 

 

163,077

 

 

 

180,293

 

 

 

187,658

 

Cost of revenues:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

 

49,843

 

 

 

63,474

 

 

 

118,530

 

 

 

126,866

 

 

 

136,989

 

Service and license

 

 

25,285

 

 

 

32,592

 

 

 

18,301

 

 

 

23,037

 

 

 

29,683

 

Generation

 

 

5,076

 

 

 

664

 

 

 

 

 

 

 

 

 

 

Advanced Technologies

 

 

12,728

 

 

 

11,879

 

 

 

13,470

 

 

 

16,664

 

 

 

13,864

 

Total cost of revenues

 

 

92,932

 

 

 

108,609

 

 

 

150,301

 

 

 

166,567

 

 

 

180,536

 

Gross profit (loss)

 

 

2,734

 

 

 

(357

)

 

 

12,776

 

 

 

13,726

 

 

 

7,122

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Administrative and selling expenses

 

 

25,916

 

 

 

25,150