By John
Petersen :Last week Debra Fiakas of Crystal
Equity Research published an article titled " No Battery Producer Left Behind " that was
based on old information about the relationship between Exide
Technologies ( XIDE
) and Axion Power International (AXPW.OB) and reached several
erroneous conclusions. Since I'm a former Axion director, the stock
is my biggest holding and I follow the company like a hawk, Tom
Konrad asked me to clarify the record and present a high level
overview of Axion's business history, stock market dynamics and
technical accomplishments over the last four years.
Since Tom's request is a tall order, the article will run longer
than usual, but it will tie together several themes I've discussed
in the past.
Axion's price chart since September 2009 has been a vision from
investor hell. However, I believe the market performance is 180
degrees out of synch with technical and business realities. I've
been an Axion stockholder for nine years and my average cost per
share is in the $1.25 range, but I've never felt better about my
risk-reward profile than I do today.
(click to enlarge)
Business History
Axion was organized in September 2003 for the purpose of
conducting basic research and development on a new lead-carbon
battery technology. Axion's PbC® battery is a third generation
lead-acid battery that eliminates the primary cause of lead-acid
battery failure, the rapid accumulation of lead sulfate crystals on
the negative electrodes. It does this by replacing the lead-based
negative electrodes with carbon electrode assemblies. The PbC
battery is basically a hybrid device that's half lead-acid battery
and half supercapacitor. It has a number of unique performance
characteristics, including:
- Lower energy density (±25% to 40%) because carbon stores fewer
ions than lead;
- Five to ten times the cycle life because carbon electrodes
eliminate sulfation;
- Ten to twenty times the charge acceptance because carbon
electrodes act like supercapacitors; and
- Self-equalization in long battery strings that reduces the need
for complex battery management systems.
Unlike most R&D companies, Axion went public at a very early
stage because there were several groups that claimed partial
interests in the technology and the only way to consolidate
ownership was in a publicly held entity. Like most R&D
projects, expectations were high at the outset but faded over time
as the challenges of developing a completely new battery technology
and proving its value to cautious and skeptical users became clear.
The process took far longer than we thought it would, but the
market potential turned out to be far greater we originally
anticipated.
From 2003 through the spring of 2009, Axion's R&D efforts
focused on optimizing the performance of its materials and
components, designing an electrode assembly that could be used as a
plug-and-play replacement for the conventional lead based
electrodes used in battery plants around the world, developing
automated manufacturing methods for the electrode assemblies and
characterizing the performance of manufactured pre-commercial
prototypes.
The first clear sign of R&D success arrived in April 2009
when Axion entered into a multi-year global supply relationship
with Exide. The second and more convincing sign of R&D success
arrived in August 2009 when the Department of Energy awarded a
$34.3 million ARRA battery manufacturing grant to "Exide
Technologies with Axion Power International" for the purpose of
producing "advanced lead-acid batteries, using lead-carbon
electrodes for micro and mild hybrid applications."
The market reacted well to both events and in August 2009,
Axion's stock price peaked at $2.75 per share while its market
capitalization peaked at $97 million. It's been a long downhill
slide ever since.
Axion's relationship with Exide was always complicated because
of size disparities. As an R&D company Axion ran a tight ship
and in April 2009 it had $8.4 million in assets, $6.1 million in
equity and $1.8 million in annual revenue. Exide, in comparison,
had $1.9 billion in assets, $326 million in equity and $3.3 billion
in annual revenue. The ARRA grant made a complicated relationship
more difficult because Exide didn't want to share the grant
proceeds without extracting a pound of flesh and Axion believed its
technology was the fundamental justification for the DOE's
decision. By the summer of 2010 it was clear that Axion and Exide
had different visions and would be following different paths.
Current relations between the two companies are competitively
cooperative, but far from close.
Stock Market Dynamics
While Axion's technical prospects were bright in the fall of
2009, its financial condition was grim. In its Form 10-Q for the
period ended September 30, 2009, Axion reported $283,000 in working
capital and $3.6 million in adjusted net assets. With the equity
markets still reeling from the impact of the 2008 crash, there was
substantial doubt about Axion's ability to survive another quarter.
Those uncertainties persisted until late December when Axion
announced a $26.1 million private placement of common stock that
saved it from imminent collapse and gave it a sound financial
footing for the first time in its corporate history. Axion's 10-day
moving average price was $1.65 before the offering and the deal was
priced at $0.57, a painful 65% discount. The deal terms were hard,
but they weren't unfair for a private placement transaction of that
magnitude.
I was thrilled when the 2009 private placement came together
because 70% of the stock was bought by four big investors who each
acquired blocks that were roughly equal to Axion's total reported
trading volume for 2009. When one big investor takes 70% of a deal,
you need to worry about the stock flowing back into the market.
When four big investors split 70% of a deal and they each buy
blocks that represent a full year's trading volume, it's generally
safe to assume that they're swinging for the fences and the shares
won't flow back into the market for years. Unfortunately, things
didn't quite work out according to plan.
The market reacted reasonably to the 2009 private placement and
during the month immediately following the offering, the price
drifted down into the $1.15 range. Based on my prior experience
with substantial private placements by public companies, it looked
like the market was reacting normally and the retail price for
liquid thousand-share blocks would stabilize at roughly twice the
placement price for illiquid million-share blocks.
Axion's market dynamic started to get ugly in late-April and
early-May when liquidation trustees for two legacy stockholders
that held a combined total of 3.5 million shares started to
aggressively compete for buyers by dropping the offering price in a
market that traded about 45,000 shares a day. By mid-July, the
stock price had fallen by 50% while the average daily volume
doubled. That price decline spooked other stockholders and
increased the selling pressure, which drove the stock price to new
lows. The extraordinary selling pressure continued in 2011 and 2012
as one large stockholder after another began to liquidate their
positions for reasons ranging from secondary repercussions of the
2008 crash, to fund management changes and even an accidental
death. As a result, the annual trading volume progression over the
last four years was:
| Calendar 2009 | 7.2 million shares |
| Calendar 2010 | 22.0 million shares |
| Calendar 2011 | 77.7 million shares |
| 2012 to Date | 76.6 million shares |
Axion may have been a very illiquid stock that traded by
appointment in 2009, but it has developed a solid liquidity base
over the last three years. More importantly, information from SEC
reports filed by certain large holders combined with daily short
sales data published by FINRA has left me highly confident that
substantially all of the Axion shares that were previously held by
large stockholders who wanted to sell have been absorbed by retail
investors who did their homework, climbed their personal walls of
worry and accumulated shares despite Axion's dismal market
performance. While market activity over the last three years has
been dominated by a few large holders that were willing to sell at
any price, I believe the future market will be dominated by a large
number of retail investors who were greedy when others were fearful
and bought Axion's stock based on the fundamental economic
potential of the PbC technology.
Technical Accomplishments
Axion's basic research and development work on the PbC
technology was substantially complete by the end of 2009. It had
advanced the PbC technology from a glorified science fair project
to a manufactured pre-commercial prototype that was suitable for
delivery to potential customers who wanted to conduct their own
testing and determine whether the PbC battery suited their needs.
Axion used a portion of the proceeds from the 2009 offering to
build a fully automated second generation production line for its
carbon electrode assemblies and upgrade its principal manufacturing
facility, but most of the proceeds were used to support customer
testing activities and pay for a variety of demonstration projects
in the new evolving markets summarized below.
Automotive Idle Elimination Systems In
response to new emissions control and fuel economy regulations, the
auto industry is in the midst of a fuel economy renaissance. The
world's automakers are all implementing proven fuel economy
technologies at a torrid pace on a fleet-wide basis. One of the
most cost-effective fuel economy systems available to automakers is
also one of the most sensible - turn the engine off while a car is
stopped in traffic and restart it automatically when the driver
takes his foot off the brake. Depending on the manufacturer, these
stop-start or micro-hybrid systems improve fuel economy by 5% to
15% for a few hundred dollars in incremental cost.
The biggest challenge of idle elimination is that powering
accessories during engine off periods and restarting the engine
when the light changes puts tremendous strain on the battery and
today's best starter batteries simply aren't up to the task. The
batteries begin to degrade as soon as they're placed in service and
within a few months a car that turned the engine off at every light
when it was new can only turn the engine off once or twice during a
commute. Idle elimination systems that don't function properly
because of weak batteries can't save fuel.
In the summer of 2009 Axion began quietly working with BMW,
which wanted to test the PbC battery for possible use in its
mainline vehicles with the EfficientDynamics fuel economy package. The
first 15 months of testing were conducted in deep secrecy. Axion's
stockholders didn't learn about the existence of the BMW
relationship until September 2010 when Axion and BMW jointly
presented the preliminary results of their testing at the European
Lead Battery Conference in Istanbul.
The following graph is an updated and annotated version of the
graphs Axion and BMW used in 2010 to show the superiority of the
PbC battery in a stop-start duty cycle. They grey lines relate to
the left-hand axis and show changes in the dynamic charge
acceptance of the batteries as they age. The black lines relate to
the right hand axis and show the amount of time the batteries
needed to recover from one engine off event in preparation for the
next engine off opportunity. As you look at the graphs, it's
important to remember that:
- The "Charge Time" scale for the AGM graph is 10x the scale for
the PbC, and
- The "Equivalent Drive Time" scale for the AGM is stated in
months while the PbC scale is stated in years.
(click to enlarge)
BMW completed its laboratory and vehicle testing of the PbC this
summer and was pleased enough with the results that it hired an
independent testing organization to confirm them. If the
confirmation testing is successful, Axion believes the next logical
step will be fleet testing to demonstrate the PbC's performance in
a variety of climate and traffic conditions. Based on the stellar
results BMW obtained during its three-year testing and validation
program, several other automakers have skipped the preliminaries
and gone directly to advanced testing of the PbC for their idle
elimination systems.
While US automakers are just beginning to implement idle
elimination systems, industry consensus holds that the technology
will be used in 34 million vehicles a year by 2015 and
substantially all internal combustion engines by 2020.
Battery-Powered Locomotives Freight
and passenger railroads in the US use roughly 3.7 billion gallons
of diesel fuel per year, which gives them a huge incentive to
reduce their operating costs by using fuel more efficiently.
Moreover, like other transportation sectors, the railroads are
subject to increasingly stringent emissions regulations,
particularly for rail yards in urban areas. In 2007 Norfolk
Southern ( NSC )
launched an ambitious program to develop a battery-powered
locomotive that could be used as a switcher in urban rail yards, or
combined with conventional locomotives to create a hybrid train
that would use battery power to augment the conventional
locomotives during acceleration and hill climbing and recover a
portion of the energy that's currently wasted in braking and
downhill grades. Since NS used 476.6 million gallons of diesel fuel
in 2011, it believes the potential economic and environmental
benefits of battery-powered locomotives are extremely
attractive.
In September 2009, NS introduced its first battery-powered
switching locomotive, the NS 999. While the early demonstrations
showed that the NS 999 could do the required work, the AGM
batteries they selected for the locomotive were not able to
withstand the tremendous regenerative braking loads of a switching
locomotive. When the original batteries quickly failed, NS began
its search for a better energy storage alternative. After
discretely testing hydrogen fuel cells and nickel metal hydride,
lithium iron phosphate, sodium beta and a variety of lead-acid
batteries, NS decided that Axion's PbC battery was best suited to
its particular needs. Axion announced the initiation of a
development relationship with NS in June 2010.
Over a period of two years, NS conducted a grueling sequence of
performance tests using its in-house development staff, Penn State
University and Axion to obtain double redundant results. In
addition to showing that the PbC could handle the regenerative
braking loads from a battery-powered locomotive, the testing
program also explained why the first generation prototype
failed.
Whenever conventional batteries are connected in series, the
resulting battery string is only as strong as its weakest link and
as the string ages the differences between batteries get harder to
control. Unlike all other batteries, strings of PbC batteries tend
to self-equalize over time because of their unique charging
behavior. The following graph highlights the differences between
the long-string performance of conventional AGM batteries and
Axion's PbC batteries.
(click to enlarge)
In April of this year, NS ordered $475,000 of PbC batteries for
their planned rebuild of the NS 999. Their goal is to have the
locomotive working this winter. Upon completion of the NS 999
rebuild, NS plans to build a larger six-axle locomotive for testing
in long haul hybrid train applications. If the two planned
prototypes perform as expected, the next logical step will be
statistically valid fleet testing throughout the NS system. Norfolk
Southern's locomotive fleet includes 240 switching and auxiliary
units and 3,900 multipurpose units. Collectively, the nation's
Class I railroads operate a total of 23,500 locomotives.
Stationary Storage Products In
November 2011 Axion commissioned its PowerCube stationary energy
storage system. While stockholders knew that the product was being
developed, they didn't know that Axion, in cooperation with
Viridity Energy, had taken all necessary actions to qualify the
PowerCube as a behind the meter frequency regulation resource in
the PJM Interconnection, the regional transmission organization for
Pennsylvania and twelve other States. In September 2012, Axion
unveiled a small version of the PowerCube for residential and small
commercial customers.
Over the last couple years grid-based energy storage has become
a hot topic and most battery manufacturers are launching products
for utilities, renewable power producers and commercial and
residential power users. It's an intensely competitive market where
the principal differentiators are likely to be reliability, total
cost of ownership and customer service. Axion's stationary storage
systems perform well and respond in milliseconds, but they don't
necessarily perform better than products from Axion's competitors.
The self-equalizing behavior of PbC batteries in long string
applications should be as attractive in stationary systems as it is
in rail applications.
As near as I can tell the key features that will differentiate
Axion's products are low maintenance and user-centric design. Axion
developed the PowerCube in cooperation with Viridity with the
primary goal of maximizing the economic benefit to commercial users
who want to reduce their power costs while avoiding costly
interruptions. Similarly, Axion developed its residential PowerHUB
in cooperation with Rosewater Energy with the primary goal of
optimizing performance and minimizing maintenance for
small-commercial and high-end residential customers who need
reliable, stable and clean power for their sophisticated security,
entertainment, climate control and other electronic systems.
Trucking Industry Products In October
of this year, Axion made a presentation at the SAE's Commercial
Vehicle Congress in Chicago that outlined its plans to introduce
specialty products for the trucking industry. The first planned
product will be battery systems for the auxiliary power units that
are quickly becoming industry standards as most states adopt laws
and regulations to restrict idling while trucks are parked for
driver rest periods. To date, industry experience has shown that
AGM batteries fail quickly in APUs and a better solution is needed.
Axion's SAE presentation used this graph to highlight the
performance differences between AGM batteries and PbC batteries
over a six-month period in a simulated APU duty cycle.
(click to enlarge)
The primary target-market for APU battery systems is the 650,000
heavy-duty trucks that haul the nation's freight. In 2006, the
average long-haul truck idled for 6 hours per day and total
national fuel consumption in idling trucks was estimated at 665
million gallons, or a little over 1,000 gallons per truck. Fuel
costs alone make four-battery APUs a compelling economic
proposition.
In its SAE presentation Axion said that it planned to begin
field testing of PbC-based APU systems by 2013, which suggests that
a formal announcement of the testing program and its development
partner will be made in the next few weeks. Since the SAE
presentation used Freightliner's ParkSmart™ System as an example of
the target market, I think there's a pretty good chance that
Freightliner will be the development partner.
A second trucking initiative Axion briefly discussed in their
last conference call was the shipment of 52 PbC batteries for a
prototype Class 8 tractor that combines a small diesel engine with
a series hybrid drive to deliver fuel economy in the 12 to 14 mpg
range, as opposed to the 5 to 6 mpg performance that's currently
prevalent in the industry. Preliminary test data from this project
is expected this year.
Risks and Uncertainties
Production Capacity Axion's electrode
fabrication line was designed to produce enough electrodes for
about 150 batteries per shift. While Axion has not disclosed its
cost of building and installing the production line, news stories
and financial statement disclosures lead me to believe an estimated
cost of $3 million per line is reasonable. By the time you account
for efficiency differences in a multi-shift operation, I'd estimate
the maximum capacity of the single electrode fabrication line at
350 batteries per day, which is adequate to support testing and
evaluation activities, but inadequate for commercial sales. When
demand for PbC batteries increases, Axion will need up to $50
million in additional capital to expand its electrode fabrication
capacity from 350 to 3,500 PbC batteries per day.
Production Costs Axion's electrode
fabrication capacity is very limited, which means that it has no
significant negotiating power with suppliers and the fixed costs of
its electrode fabrication facility are spread over a small number
of units. In combination, these factors make current versions of
the PbC objectively expensive. I've done some back of the napkin
calculations on the bill of materials for a PbC battery and
compared those numbers with the bill of materials for an AGM
battery. The bottom line is basically a wash when you substitute
ounces of expensive carbon for pounds of cheaper lead. Once demand
for PbC batteries ramps, Axion should enjoy a stronger bargaining
position with suppliers and derive substantial savings from the
more efficient utilization of its physical plant. Additionally, the
current electrode fabrication line is a second-generation version.
As Axion works its way down the normal learning curve for
manufacturing enterprises, additional cost savings are almost
certain to arise. While management has scrupulously avoided making
promises about future cost reductions, the opportunities for real
and substantial economies of scale cannot be overlooked.
Anticipated Financing At September
30th, Axion had $4.2 million in cash, $6.8 million in working
capital and $13.3 million in stockholders equity. It will require
additional operating capital by the end of Q1-2013. Axion's Form
10-Q disclosed that management is currently seeking additional
capital from sources that are in alignment with its business
objectives and long term strategy. During the recent conference
call, the CEO explained that the next financing transaction would
probably be a 2013 event and disclosed that the investors who
provided $8.6 million of additional capital in February of this
year are willing to participate in another round if an appropriate
strategic partner is not identified. Since the terms of a future
offering will not be negotiated until immediately prior to closing,
they're a significant uncertainty.
Investment Conclusions
In a normal case I would have expected Axion's stock price to
stabilize in the $1.15 range after the 2009 offering. I would also
have expected the price to slowly appreciate from that base level
in response to the following significant technical
accomplishments:
- The June 2010 announcement of a relationship with Norfolk
Southern;
- The September 2010 announcement of a relationship with
BMW;
- The November 2011 commissioning of the PowerCube as the first
behind the meter frequency regulation resource in the PJM
Interconnect;
- The decision to use the PbC in Norfolk Southern's battery
powered locomotive prototypes;
- The successful completion of BMW's testing activities; and
- The September 2012 launch of the residential PowerHUB;
While each of these events would have been big news in a typical
micro-cap company, they didn't register on Axion's price chart
because of the extremely unusual market dynamics that prevailed
when the announcements were made. While Axion's stock has been
"broken" for the last three years, I believe the market dynamic
that caused the problem has been resolved and the only thing that's
holding the stock at present levels is fear that higher prices will
only give rise to another round of heavy selling. After three years
of unrelenting selling pressure despite an increasing body of proof
that the PbC is an extraordinary new battery technology, I
understand the fear. I also know that Axion has arrived at a key
transition point and is poised to shed the R&D company market
dynamic that prevailed for the last nine years as the PbC earns a
place in several billion-dollar niche markets where competitive
battery technologies simply can't do the work.
(click to enlarge)
Most R&D companies that enter the valley of death never
emerge. For the fortunate few that do, the hard times last longer
than anyone expected. The one trait all entrepreneurs share is
unbridled optimism. The three traits all survivors share are
determination, focus and fiscal restraint.
After nine years of hard work, adversity and limited financial
resources, I believe Axion has finally arrived at the "Innovation
Trigger" for the next stage in its development.
Disclosure: Author is a former director of
Axion Power International (AXPW.OB) and holds a substantial long
position in its common stock.
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