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Edited Transcript of TGEN earnings conference call or presentation 28-Mar-19 3:00pm GMT

Full Year 2018 Tecogen Inc Earnings Call

Waltham Apr 4, 2019 (Thomson StreetEvents) -- Edited Transcript of Tecogen Inc earnings conference call or presentation Thursday, March 28, 2019 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Benjamin M. Locke

Tecogen Inc. - CEO & Director

* Bonnie Jean Brown

Tecogen Inc. - Principal Financial Officer, CAO, Treasurer & Secretary

* Robert A. Panora

Tecogen Inc. - President & COO

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Conference Call Participants

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* Amit Dayal

H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research & Senior Technology Analyst

* Donald Roger Brooke Liddell

Clear Harbor Asset Management, LLC - Managing Member, Investment Manager and Vice-Chairman

* Han Jang

Maxim Group LLC, Research Division - VP & Senior Equity Analyst

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Presentation

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Operator [1]

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Greetings, and welcome to the Tecogen Year-End 2018 Earnings Call. (Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Bonnie Brown, CAO, Treasurer and Secretary. Thank you, Bonnie. You may begin.

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Bonnie Jean Brown, Tecogen Inc. - Principal Financial Officer, CAO, Treasurer & Secretary [2]

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Thank you, Jesse. Good morning, and thank you all for joining our year-end 2018 earnings call.

On the call with me today are Benjamin Locke, our CEO; and Robert Panora, our President and Chief Operating Officer.

Please note, this call is being recorded and will be archived on the Investors section of our website for 30 days following the call. A copy of the press release regarding our year-end 2018 earnings is also available in the Investors section of our website.

Before we begin, let me briefly cover our safe harbor statement. Various remarks we may make about the company's future expectations, plans and prospects constitute forward-looking statements for purposes of the safe harbor provision under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in the company's most recent annual report on Form 10-K and quarterly reports on Form 10-Q under the caption Risk Factors, which are on file with the SEC and available in the Investors section of our website under the heading SEC Filings.

We may elect to update forward-looking statements at some point in the future. We specifically disclaim any obligation to do so. Therefore, you should not rely on any forward-looking statements as representing our views as of any date subsequent to today. During this call, we will refer to certain financial measures not prepared in accordance with generally accepted accounting principles or GAAP. A reconciliation of these GAAP financial measures to the most directly comparable GAAP measures is available in our earnings press release and in the Investors section of our website.

I'll now turn the call over to Ben for a business update.

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [3]

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Thank you, Bonnie. So as the agenda on Slide 4 indicates, I'll start with a brief company overview, followed by a top-level review of the company's performance and financial results for the fourth quarter and full year 2018, along with recent achievements and accomplishments. Bonnie will then discuss the financials in more detail, followed by Bob, who will give an overview of our emissions technology development efforts. I will then have some final remarks before we take questions.

As always, I'd like to start off by reminding those who may be new to our company about Tecogen's core business model shown on Slide 5. Heat, power and cooling that is cheaper, cleaner and more reliable. Our proprietary technology for improving efficiency, emissions and grid resiliency is truly disruptive to traditional methods of heating, cooling and powering buildings and infrastructure.

Turning to Slide 6, the fourth quarter of 2018 saw revenues of $9.3 million, a 17.3% increase over the third quarter of 2018 and a 9.2% decrease over the fourth quarter of 2017.

Despite the drop in revenues quarter-over-quarter, our adjusted EBITDA came in at $502,000 for the quarter versus $533,000 for the fourth quarter of 2017.

Our gross margin for the quarter improved to 40% versus 37% in the fourth quarter of 2017.

Also notable in the quarter was an increase in chiller sales, which I will talk more about later in the call and growth in our service maintenance revenue as we bring more systems with maintenance contracts online.

Also in the quarter, we recognize a goodwill impairment of $4.4 million. This was due to the acquisition of the ADG assets in corresponding accounting treatment. Bonnie will address this more in her discussion.

For the year, 2018 saw record revenues of $35.9 million, an 8% increase over 2017.

Gross margins for 2018 came in at 38% versus 39% in 2017. And adjusted EBITDA for 2018 was $217,000 versus $1.1 million in 2017.

And as I've mentioned in previous calls, we are seeing tremendous traction in our chiller, Tecochill chiller systems, as evidenced by a record $7.2 million in chiller sales in the year. Again, I will talk more about our plans to further increase chiller sales and the reasons for it later in the call.

Overall, as the chart indicates, we've come a long way in the past few years, more than doubling sales and tripling profits over the past 4 years.

Moving on to Slide 7 and looking more closely at the fourth quarter. You can see the revenue mix, a drop in product sales compared to the fourth quarter of 2017, which was a breakout quarter from the introduction of the upgraded InVerde e+. As I'll discuss later, we are deliberately shifting some sales resources to our chiller products to address the changing market needs for our equipment. As I've said before and will repeat again, a chiller can accomplish just as much grid-type savings and greenhouse gas benefits as a cogeneration unit. So from a product mix standpoint, we are fine selling more chillers to meet the energy saving needs of customers over cogeneration when the situation calls for it.

And as I mentioned, our fourth quarter adjusted EBITDA of $502,000 benefited from our margins of 40%.

Turning to Slide 8 and looking at full year in more detail. You can see our 8% increase in year-over-year revenues. And despite a slight decrease in overall margin, we had record gross profits for the year. 2018 expenses were higher overall than 2017 with increases in legal expenses, R&D investment and sales expenses accounting for a large part of the increase. We believe our legal expenses will significantly decrease as fees related to the ADG acquisition are nonrecurring. We also will continue careful investment in R&D to progress our Ultera emissions technology. Bob will describe the results of that activity later in the call.

In all, 2018 was a good year for the company with record revenues, increasing gross profit and consistently strong gross margins.

Moving to Slide 9. Our backlog has grown substantially, currently at almost $30 million as of yesterday, March 27. As I've said previously, our backlog consists of product and installation revenues and does not contain our recurring service revenues. Given the size of the backlog, I thought it will be helpful to break it out into products and installation services.

Product backlog, which consists of our equipment and associated accessories, stands at $15.4 million and the remaining $14.5 million of backlog is installation services associated with that product. We believe it is helpful for investors to see the portion of backlog associated with installation services since that portion tends to be lower margin and take longer to complete.

Also notice in the pie chart a now significant portion related to indoor growing. We are continuing to aggressively promote our chillers for indoor growing facilities with crops such as fruit, vegetables or cannabis in some states. Our chillers are ideally suited to these facilities because of the low operating cost of the Tecochill chillers compared to electric chillers. And utilizing the waste heat from our chiller for heating and/or dehumidification of the growth space. Our systems have become the design basis for several large growers who are planning additional facilities. I expect more orders for our equipment in this space in the coming months.

Also note the increase in office building segment. This segment is anchored by the largest order in company history last month, $8.3 million, involving a trigeneration system for a data center located in a Manhattan office building. This project is significant, not just in terms of the size, but also demonstrates data centers as an expandable market for our systems. The project is also notable because it will be owned by an ESCO financing company under a long-term agreement with the building owner, and Tecogen will have the service contract for the life of that agreement.

I would also like to point out that our backlog currently does not have any sales of our TecoFrost product that we are relaunching this year. I expect to have preliminary sales of the TecoFrost this year, but will not forecast sales into the backlog until we are more comfortable with the rollout timing.

In all, I am very pleased with our backlog and hope that differentiating products versus install will help investors better understand the significance.

Moving to Slide 10. I want to reemphasize key achievements in 2018 for the company and how they relate to our plans going forward. First, as mentioned, we adjusted our sales strategy to have a renewed focus on our chiller product. Tecogen is the only natural gas engine-driven chiller manufacturer, which allows us to sometimes take a different approach for certain projects seeking energy savings. Replacing a centralized electric chiller with a Tecochill often accomplishes the same energy savings as cogeneration but without any competitors and in most cases with lower capital [outlay] than an equivalently sized cogeneration system.

By way of example, our press release this week described a large residential facility with tremendous energy costs. The 4 STx chillers we are providing would have required about 0.5-megawatt of cogeneration in order to reduce the same energy cost but with a much higher capital cost. Our solution simply replaced our existing chillers with Tecochill and the only cogeneration needed afterwards was a cost-effective, 75 kW Tecopower unit.

Using our chiller products as an alternate proposal for projects initially looking for large cogeneration is a powerful way to eliminate competition and reduce the capital costs for the same energy savings. Chillers are also typically specified to engineers and manufacturers' representatives and are therefore much more transactional in terms of project closing. Adding the TecoFrost ammonia chiller line will further our advantage in an entirely new market in industrial refrigeration. I hope to have more news about the TecoFrost sales in the coming quarters.

Next, we increased the productivity and reliability of the sites acquired from ADG in 2017 to the point where we received significant interest from various ESCOs to sell some or all of the assets. Ultimately, we decided to sell a portion of the assets to Sustainable Development Corporation LLP (sic) [Sustainable Development Capital LLP], SDCL, for a net of $7 million. The sale includes an O&M agreement for Tecogen to continue servicing these sites. So despite some loss in energy revenue, we will continue to receive service revenues from SDCL. We currently do not have any plan to sell the remaining ADG sites still owned and operated by Tecogen.

Next, as Bob will talk about in a few minutes, we have made excellent progress with our Ultera emissions technology, most notably through our partnership with Caterpillar, Mitsubishi Fork Truck of America (sic) [Mitsubishi Caterpillar Forklift America] or MCFA. And lastly, with the ADG asset sale and our positive cash flows, we have achieved a degree of financial stability that allows us to execute on our growth plans without the imperative for additional capital.

In all, I think we did a good job in 2018 setting up the company for success going forward in our core markets and with our Ultera emissions program, and our financial outlook is quite solid.

Moving to Slide 9 (sic) [Slide 11]. I wanted to give a little more color on our core business markets. As our earning release said, in 2018, we sold 13 chillers to 7 different indoor cannabis-growing facilities, with another 3 sold to an indoor produce growing facility in Florida. The Tecochill product is increasingly becoming the design basis for these indoor-growing facilities, and we are closely monitoring the permitting of new growth facilities in New York, New Jersey and other states as they anticipate substantial new production due to recreational use legalization.

We have also received tremendous excitement for the reintroduction of the TecoFrost product. If you were particularly attentive at the beginning of the call, you would have seen the TecoFrost logo on Slide 4, along with our other product logos. TecoFrost was a tried-and-true product line for many years, ultimately being discontinued because of gas price spikes in the 2000s as well as a lack of good emission controls on earlier units. We have now reintroduced TecoFrost given the compelling economics of natural gas pricing and availability and our implementation of Ultera emissions on the product. Bob will talk more about the importance of emissions in states like California. But suffice to say, we generated significant interest at IIAR, the leading ammonia refrigeration show earlier this month, with both customers and with Vilter, our manufacturing partner, who also recognizes the market potential of TecoFrost.

Customers for this equipment represent a new sales opportunity for Tecogen that could not be filled with our existing products and promises significant revenue growth potential in our core business. You can see the picture of the TecoFrost unit at our booth at IIAR on the slide.

Next, we have developed relationships with several energy service companies or ESCOs that provide third-party funding for project development and subsequent ownership of the asset. As mentioned, we now have a relationship with SDCL for project finance and the data center project mentioned earlier in the call is a different ESCO partner. The financial sophistication of these ESCOs allow them to offer compelling savings to customers under long-term energy-saving agreements or ESAs and provide the necessary capital for very large turnkey projects. We have a pipeline of additional opportunities with a few of these ESCOs that we hope to announce in the coming quarters.

And lastly, as I mentioned last quarter, our microgrid-enabled InVerde system has obtained UL 1741 SA or smart inverter certification, as required for cogeneration systems in California. This additional certification was developed to help meet the critical needs of the utility when large amounts of distributed generation is in operation on the network. Having the smart inverter certification will allow Tecogen projects to participate in additional revenue generating utility programs, such as reactive power control, demand response and frequency correction, thereby creating additional economic benefits to the system.

By virtue of Tecogen's CERTS microgrid feature, we can also integrate battery storage to be operated and controlled by our InVerde electronics, allowing additional revenue to the foundational cogeneration economics.

The final stages of this new certification will occur in mid-2019 and it's expected that other states will adopt similar requirements for this important certification.

Now I'd like to turn the call over to Bonnie, who will cover more details on our financials, followed by Bob, who will describe our emissions in more detail. Bonnie?

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Bonnie Jean Brown, Tecogen Inc. - Principal Financial Officer, CAO, Treasurer & Secretary [4]

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Thank you, Ben. I'd like to start with a discussion of the fourth quarter's results and then move to year-end. Slide 12 contains some of the highlights of the Q4 year-on-year financial results.

Overall, consolidated gross margin was 40% and consolidated gross profit was $3.7 million for the fourth quarter of 2018 compared to 37% and $3.8 million for Q4 '17, a 2% decrease in gross profit year-over-year.

Total product revenues for the quarter decreased by 20% compared to the fourth quarter of 2017. Chiller sales grew 21% year-over-year, making a strong showing in the quarter and for the year of 2018. Product gross margins remain consistent at 41% for both Q4 '18 and '17.

Long-term service contracts and parts sales increased by 11% on a year-over-year basis and continue to provide its annuity-like revenue stream.

Total service and installation revenue declined by 4% for the quarter compared to the fourth quarter of '17. However, it did continue to deliver more than half of our product and service revenue for the quarter.

Service gross margin was 39% for Q4 '18 compared to 34% for Q4 '17, a 15% improvement.

Energy production activities from our ADG sites contributed $1.6 million to revenue for the quarter. With gross margin of 41%, this revenue source provides an important second source of annuity-like cash flows with its long-term contract.

In Q4 2018, following the performance of our annual goodwill impairment test, the company recorded a goodwill impairment loss of $4,391,000. By way of explanation of this impairment loss, let me start by saying our goodwill resulted from our stock-for-stock merger with ADG in 2017, which was accounted for as an acquisition. The assets we acquired in the merger comprised our energy production reporting unit.

A goodwill impairment results when the fair value of those assets become less than what we originally paid for them. In this case, that happened primarily due to 2 factors. First, at the time the merger terms were being negotiated, our stock price, which is the basis for what we paid for the assets, was in the $3.50 to $3.60 per share range. On the date of the merger closing, our stock price had spiked to $4.02. That resulted in the purchase price being approximately $2 million more than was anticipated, which ultimately ends up in goodwill.

The second factor has to do with the running or expiration of the terms of the energy production contracts we acquired from ADG. Those contracts are long term, generally, 10 to 15 years. We based our fair value determinations for the reporting unit primarily on the discounted cash flows from those contracts. As time passes, we recognize those cash flows in earnings. However, as the remaining terms under those contracts shorten, remaining cash flows become less and less and accordingly, so does the fair value of the reporting unit. Since the date of the merger with ADG, we have not added new business to the reporting unit to offset the reduced cash flows from the existing contract.

It should be noted that since the date of the merger through the end of 2018, Tecogen has recognized gross profit from the energy production reporting unit of $4.4 million.

Net loss attributable to Tecogen for the quarter was $4,372,000, which includes the goodwill impairment loss of $4,391,000. Excluding this impairment loss, the quarter provided net income attributable to Tecogen of $19,000. Q4 '17 provided net income of $269,000, a decrease of $250,000. As discussed earlier, we continue to invest in research and development activities. These costs for Q4 '18 amounted to $305,000 compared to $296,000 for the same period in '17. Additionally, selling expenses increased by $45,000 year-over-year as we invest in various sales activities.

In addition, our G&A expense included nonrecurring costs in connection with the ADG merger as well as expenses associated with the opening and operation of our Florida service center, both contributed to the increase in operating expenses of $244,000 and a decrease in net income of $250,000 year-over-year.

Slide 13 presents the financial metrics for the year ended 2018 as compared to '17. Total revenue grew for 2017 (sic) [2018] by 8% to $35.9 million compared to $33.2 million in 2017. While product revenue for the year decreased by 3% as compared to '17, chiller sales grew substantially by 49% for the year. Product gross margin remained consistent at 38% for both years ended '18 and '17.

Service revenue for the full year of '18 was $16.9 million, showing 3% growth over the $16.4 million for the same period in '17. Long-term service contracts and parts sales represented 24% of the year's total revenue and continue to provide us annuity-like revenue stream.

Total service and installation revenue increased by 3% for the year compared to 2017 and continued to deliver more than half of our product and service revenue for the year. Service gross margin was 37% for 2018 compared to 38% for '17, a 1% decline.

Energy production activities from our ADG sites contributed $6.4 million to revenue for the year and gross margin of 41%, providing $2.6 million in gross profit for the year. 2018 represented the first full year of these energy production activities as ADG was acquired in May of 2017.

Overall, consolidated gross margin for the year was 38% and consolidated gross profit was $13.5 million compared to 39% and $13 million for year-end 2017, a 1% decrease in gross margin and a 5% increase in gross profit dollars for the year ended 2018 compared to '17.

Net loss attributable to Tecogen for the year was $5.7 million, which includes the goodwill impairment loss of $4.4 million. Excluding this impairment loss, the year resulted in a net loss of $1.3 million. Year-end 2017 provided net income of $47,000, a comparative decrease of $1.4 million.

As discussed earlier, we continue to invest in sales and research and development activities for our future. These costs in 2018 amounted to $4 million compared to $3.2 million for the same period in '17, an increase of approximately $800,000. In addition to our -- in addition, our G&A expense included a full year of ADG overhead costs, nonrecurring charges in connection with the ADG merger as well as the opening of our Florida service center, all contributing to the increase in G&A expenses and a decrease in net income for the year ended 2018 as compared to '17.

Slide 14 presents the reconciliation of adjusted non-GAAP EBITDA for the fourth quarters and years ended December 31, 2018 and '17, which has been referenced throughout our presentation and in the earnings release. Of course, after adding back interest, taxes, depreciation and amortization to net income or loss attributable to Tecogen, we come up with the standard EBITDA, which for the fourth quarter of 2018 was negative $4.1 million compared to a positive $487,000 for the fourth quarter of '17, with goodwill impairment accounting for substantially all of this difference. Likewise, EBITDA for the full year of 2018 was a negative $4.8 million compared to $763,000 for the full year of '17.

After adding back the noncash adjustment of stock-based compensation, the mark-to-market adjustment creating an unrealized loss on investment securities and the goodwill impairment, plus the nonrecurring merger-related expenses, we reach adjusted EBITDA, a non-GAAP measure that management uses as an important metric. For the year ended December 31, 2018, adjusted EBITDA was $217,000 compared to $1.1 million for the full year of 2017. For the fourth quarter of 2018, adjusted EBITDA was $502,000 as compared to $533,000 for the same quarter in 2017.

Now I'll turn the call over to Bob for a technology update.

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Robert A. Panora, Tecogen Inc. - President & COO [5]

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Good morning, and thank you, Bonnie. My discussion today, as in the past, will be to provide an update to our work relating to commercial applications for our engine emissions technology, Ultera. Before doing so, I want to speak out about our TecoFrost experience 15-plus years ago that Ben spoke about earlier. At that time, we had strong interest in the product, especially in California, which is not surprising. The region is a major agricultural and food processing center as well as having abundant industrial cooling applications. In that era, we sold units to wineries, bottling and ice-making plants and to dairies. However, 2 problems emerged. Since regulations became more restrictive, for which we had no robust solution, while natural gas prices were steadily increasing, which was a major concern to our customers. Today, the picture is changing in that the industrial cooling market, especially in California, is strong while emissions regs are, of course, still tight.

But Ultera technology is available to us with good success in SoCal, even in unfamiliar engine products like the pump applications that we've done in generators and so forth. Perhaps, most importantly though, natural gas price relief did materialize to such an extent that our customers' customer base has a strong confidence in the stable, inexpensive supply for many years. All in all, a very good time to return to this market.

Now going back to emissions. We have several initiatives that are ongoing, but I'll start with the one that we believe to be the most important, which is our fork truck project. By way of background, we received our initial funding from the propane industry, whose members are keenly interested in the technology as being important in maintaining market share relative to electric-powered trucks. Central to the issue, of course, is emissions, particularly the ones that directly relate to human health, and for which are of heightened concern where indoor operation is common.

As Ben mentioned, we are working with MCFA, a well-known manufacturer in the North and South American markets. They elected to go forward with the program after the initial PERC-funded phase concluded. They were favorably impressed with the Ultera system and its potential following the witness test in our laboratory in Massachusetts. We feel they are a particularly good company to be working with, as the primary engineering collaboration is not so much with Caterpillar but with Mitsubishi, which has a vast and many different applications.

So MCFA agreed -- this is the plan -- to provide custom engine tuning for the fork truck, which we would utilize to maximize the effectiveness of the Ultera process. I've discussed in previous calls engine tuning as being an important part of the process and one we've frequently and routinely used in Tecogen products to make the performance improve. Once the software was finalized at Tecogen, MCFA would receive the truck for evaluation at their facility in Texas.

Since our last call, we received the initial batch of control software from the Mitsubishi engineers in Japan where the engine will be sourced. Subsequently, we tested versions of the software in our standard test cycles. The tests had revealed good improvement, achieving levels we would project to be very close to the near-zero certification that we had as our goal. However, a detailed examination of the data showed that the tuning could be improved in various operating points in the cycle. We constructed an operational map for the engine, highlighting the regions where improvements are needed and reviewed them with the folks at MCFA. They readily agreed to take our recommendations to Mitsubishi in Japan for guidance in reviewing the engine tuning. And very recently, we received the second iteration from Mitsubishi and we have initiated our evaluation, although we have no results yet. Next slide, please.

There are several other Ultera activities that are ongoing and I'd like to report on today as well. In 2017, we had supplied a customer with Ultera kits for a group of natural gas generators in Southern California that required permitting for general use beyond the 200, our annual exemption given to emergency generators. As such, they needed to operate within permit limits that had never been achieved by commercial natural gas engines without some sort of exemption, like the 200-hour limit I spoke of and also the CHP units, which get a heat recovery credit. So these applications got none of those exemptions. And I'm pleased to report, all the generators are permitted and have passed their final source tests. I believe these units are the only natural gas engines to meet source test requirements at these very low levels. So it's an important Ultera milestone.

On another matter, we have been notified by Southern California -- Water District of Southern California that approval has been granted for an Ultera water pumping project. The plant will utilize the Ultera kits where emissions after treatment apply to several 800-horsepower Cat engines. These will be the largest Ultera kits we have produced and for the first time involve a new installation, not a retrofit of an old engine. So that's a first for us.

Lastly, our work with a research institute relating to Ultera applications in light vehicles is progressing. This is the first phase of their work, which was to develop custom catalyst formulations and is funded, of course, by Tecogen. The custom test samples have been fabricated and are ready to test and we'll begin doing that -- they will begin doing that shortly.

With that, I'll turn the call over to Ben for his final words.

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [6]

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Thank you, Bob, for that update. I'd like to talk now about what investors should expect in 2019. So looking at Slide 17, I'd like to reiterate first what are some of the key value propositions of Tecogen's clean, reliable distributed generation systems.

As I mentioned earlier at the beginning, our systems use clean and abundant natural gas to produce heating, cooling and energy that is cheaper, cleaner and more reliable. Our cogeneration systems are designed with the U.S. utility structure in mind in terms of interconnect certifications, microgrid functionality and incorporation of other distributed generation assets such as storage.

As we are seeing in California, this functionality is becoming mandatory in some areas, but the economic benefits of providing these grid support services will ultimately benefit the economics of using Tecogen technology.

Next, Tecogen has no competitors in the gas engine chiller market. We are focusing our efforts on new and existing markets for Tecochill, such as indoor growing, and will begin selling TecoFrost into the ammonia refrigeration market later this year.

And last, but most consequential in terms of the investor update, we have shown the scalability and effectiveness of our Ultera emissions technology on many engine platforms and sizes, from General Motors engines, to Ford engines, Generac generator engines, Caterpillar engines, whether new or retrofitted, and more recently, with the Mitsubishi engine on a forklift project. The result of our retrofits on each of these engines is the same, near-zero emissions on par with a fuel cell. We think our message is reaching a larger investor audience, and I look forward to sharing another update in Q1, the call in May.

With that, I'd like to turn it over to the operator for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from the line of James Jang with Maxim Group.

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Han Jang, Maxim Group LLC, Research Division - VP & Senior Equity Analyst [2]

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So I just wanted to ask, Ultera seems like a very novel approach to what's going on in the sector. But there are a couple of competitors out there that are using batteries for these fork trucks. So is there some type of internal deadline to get this commercialized? And if you can kind of elaborate on your thoughts on the competition with EVs that'd be great.

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [3]

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Sure. Yes. It's a good question. And we've heard that certainly a lot. And I'll maybe start to answer and I'll hand off to Bob for his thoughts on the matter. Certainly, batteries are an option, but that, by definition, involves a new fleet. If you've got an existing fleet of propane fork trucks and you're going to switch to batteries, well obviously, you have to get rid of your -- you have to add those to the fleet, and that's a cost. That's number one. And number two, the power density of propane is very important. In terms of practicality using a forklift, the power density of heavy lifting and making sure that you've got a tank full and you're not going to get interrupted during a load cycle is very important. And of course, what we're bringing on here is an alternative approach, which is a simple retrofit. You don't have to buy new fork trucks. You can make it a retrofit and still have all the benefits of propane. So that's my immediate reaction. But Bob, I think, has been interacting more closely with the propane folks because they have many drivers of their own.

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Robert A. Panora, Tecogen Inc. - President & COO [4]

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Yes. The propane industry is, of course, they want to sell propane, so they're very interested in it. But from the manufacturer's perspective, they realize that, first of all, the propane fork trucks perform better and customers prefer them. And so all things being equal, the propane trucks are very desirable to operate. They're easy to operate, but they have this emissions problem that's been sneaking up. So the electrics are not for everybody. They don't last through a full shift often and so forth and they've got some shortcomings. So again, it's -- there'll be electric fork trucks and gas fork trucks and propane fork trucks that will coexist. And I think the MCFA people would like to see their primary products stay there as long as they can. I think they see a future for a low-emitting vehicle as being a way to last with propane for many years to come.

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Han Jang, Maxim Group LLC, Research Division - VP & Senior Equity Analyst [5]

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Okay. So I mean, so you're not under any pressure internally to try to get things out quicker? You're just kind of...

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [6]

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I'm pushing everything really hard, James. I'm just kidding. No, we certainly don't have any regulatory deadlines. But suffice to say, as Bob was saying, there is an imperative in the industry to show that you can have a propane-powered fork truck with near-zero emissions. I mean, and you can imagine these propane fork truck fleets that are in Long Beach Port and all these other areas where they have very significant emissions problems, if you could retrofit that fleet to have near-zero emissions without requiring a bajillion dollars of new battery fork trucks, that's pretty compelling.

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Han Jang, Maxim Group LLC, Research Division - VP & Senior Equity Analyst [7]

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Okay. And my final question is, so you guys have been growing at double digits since 2012. 2018 was a little slowdown. What are some macro forces that you're seeing that's leading to this? Is it just a slight pullback or a slowdown in construction or improvement spending or is there something else that we're not catching here?

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [8]

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Well, I think if the -- the slowdown is not so pronounced, and it's a bit there. And certainly, there's timing. As I kind of alluded to, James, and maybe I've mentioned it before, we had a tremendous slug of orders when we introduced our InVerde e+ because of the much improved functionality of that thing and of course, designed that way, particularly for these New York projects. We saw a slug of activity in 2017 on that product. And the installations of those things then kind of drags a little bit out, which is another reason why, James, I did try to break out the installation part of our backlog because having a big project like that data center is very good. It's great for units. There's going to be a construction element that takes a little bit longer. So you end up having a slug of product sales and then a lingering bit of install. And the timings of those things sometimes overlap, okay, sometimes not. So I don't think you're seeing anything that's alarming or predictive. I will acknowledge, though, that we are seeing this uptake in chiller sales. And all things being equal, if I can flip a project, a hotly competitive cogen project, if I can flip that into a chiller project and eliminate the competition, well I will absolutely do so. So we're getting a little bit smarter, James, in terms of how we approach some of these cogen projects and seeing if we can get a better system in there. And the chillers seem to be a good way to leverage our strengths.

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Han Jang, Maxim Group LLC, Research Division - VP & Senior Equity Analyst [9]

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Okay. So one final question. So chillers are going to be the -- you think that's going to be a huge -- a pretty sizable driver near term?

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [10]

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Yes. I'd like it to be. I'm positioning ourselves that way because it's a great place to be in. It's just so much more predictive selling chillers because people buy and sell chillers all the time. They install them all the time. It's not like you're buying a piece of art or something which sometimes cogen projects turn into. So it's a much more transactional type of sale, which I think will be a good place for us to be in.

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Operator [11]

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Our next question is coming from the line of Amit Dayal with H.C. Wainwright.

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Amit Dayal, H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research & Senior Technology Analyst [12]

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The fourth quarter year-over-year declines in sales, you attribute all that to sales efforts being directed towards chillers? Is there anything else that caused that drop? Any color on that would be helpful.

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [13]

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Yes, again not so much. I mean, if there were some real negative trend that was bottling up our pipeline for products or cogen, I would certainly point it out. Some of the incentives are starting to sunset. Another reason why I'm happy that the chiller product segment is growing, because if you can have a product that they can subsist on without subsidy then that's a good place to be. But you're still seeing the backlog growing. And as I said, these waves of projects come in slugs, Amit. And we had this slug of orders and then we're fulfilling out the installation of them now, and our backlog, I think you'll see in the next slug. So I think our -- this business is still pretty strong. But with that said, I'm absolutely conscious in trying to take advantage of more sales in chillers if the opportunity presents itself over cogen.

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Amit Dayal, H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research & Senior Technology Analyst [14]

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Understood. And just going to the backlog, at the end of 3Q, backlog was around $20.2 million and then per the press release, you had $16.6 million at the end of 2018, which now jumped to around $29 million. So can you walk us through sort of what happened between the drop in 4Q and the pickup in the first quarter you've seen? And is that more sort of product backlog that has grown in the first quarter or installation backlog that has grown?

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [15]

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Well, I think the best example is probably this data center order, which I said is a great order. And not just because it's $8.3 million, but because data centers are just such a perfect application for the InVerde in terms of it's a -- you can do the backup power, you can do a fast disconnect and reconnect to the grid, all that kind of thing. But that was a big order that went in the backlog. And then you add on to that, we had a number of orders. We had the 12-unit microgrid order late last year. We had a large residential building, I think a couple of months ago or maybe a few weeks ago, an order that was large. They owned a bunch of buildings and we got all their buildings. That was around 6 units. So the backlog's continuing to grow. And we're just -- again, just trying to focus on the chillers because ultimately, I think, that's going to be a much better growth segment for us.

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Amit Dayal, H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research & Senior Technology Analyst [16]

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Understood. Just forward-looking a little bit in terms of the outlook for 2019. Do you expect to sort of be at double-digit growth -- back at double-digit growth again in 2019? And in that context, should we expect some sequential improvements in revenues in the first quarter of '19 versus fourth quarter of '18?

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [17]

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Yes. Well, I mean, my goal is to keep growing the core business of the company. And then the emissions stuff is great. We're making tremendous progress. That's wonderful. But at the end of the day, my goal is to keep the company fundamentals growing. And so yes, my goal is to keep this growth rate up. Now can I keep it up? I hope so, and I'm -- when I look at chillers, I see that market segment as ripe for growth. When I look at the industrial ammonia refrigeration market here in the U.S. and in California, as Bob was saying, but those refrigeration units exist all over the world. And I talk about the InVerde being a U.S. kind of focused product. And it is for the interconnect and all the reasons I talk about the InVerde, but that ammonia refrigeration system, that TecoFrost system, is ubiquitous throughout the world, ammonia compression. And so ultimately, you could see us doing, of course, the Americas with the TecoFrost. But by virtue of some of the sales networks that we have and our partner Vilter has, you can see some ability for us to expand that outside of Europe and other locations where a cogen expansion with our InVerde wouldn't be practical. So again, kind of long-winded answer there, Amit, but I think a lot of our growth -- I hope a lot of our growth can come from our chillers, in particular this TecoFrost product, which could be sold in many places.

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Amit Dayal, H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research & Senior Technology Analyst [18]

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So this TecoFrost, can we expect it to show up in the backlog in your 1Q, by the time you report your 1Q earnings?

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [19]

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Not quite so sure about that, Amit. Just to give a little flavor on how we're going to roll this thing out. We're going to roll it out on the East Coast first, kind of keep these first few sites close to home, if you will, and -- but then to start going out, as Bob said, a lot of opportunity on the West Coast. I don't see it being a material, meaningful contributor to the backlog until probably later this year. You might see something in between now and then of some sales. I hope you will see a press release about a sale of it in the coming months. But in terms of a backlog contributor, I'm thinking perhaps later this year, just to be conservative about the rollout.

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Amit Dayal, H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research & Senior Technology Analyst [20]

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Got it. And just last one on the Ultera side. Again, it looks like you're making a lot of progress with these testing-related milestones. Should we remain conservative in terms of anything from Ultera showing up as a part of backlog this year?

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [21]

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Well, I'll maybe answer my perspective on that. And if Bob has something, you can share it. But certainly, that eMW, that order that Bob mentioned of the retrofitted, the Caterpillar engine, and that's going to be in our backlog. Once that gets to the point of the contract being finalized and the dollar amounts, et cetera, that will appear in our backlog. In terms -- but beyond that, in terms of when are we going to retrofit a fleet of fork trucks, and is that going to be in the backlog? I think that's getting ahead of ourselves a little bit. What I really want to see in 2019 is a demonstration of this on that Mitsubishi engine. It's a fork truck engine, fine, but it's a Mitsubishi engine, to really complete our slate of demonstrating all these different engine platform and sizes. And then at that point, I think we'll be in a position to start talking about, okay, what's the next project, what's the fleet we're going to retrofit, how much is that and when will that go into the backlog? So my long way of saying, aside from this Caterpillar retrofit, which is very exciting, you probably won't see fork truck and Ultera-related backlog until maybe next year or so. That's very -- that's a little bit further out.

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Operator [22]

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Our next question is from the line of Roger Liddell with Clear Harbor Asset Management.

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Donald Roger Brooke Liddell, Clear Harbor Asset Management, LLC - Managing Member, Investment Manager and Vice-Chairman [23]

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A number of points. First, I'm encouraged by the data center opportunity because an ESCO is involved presumably in the spec-ing for the equipment and also the financial -- the finance arm getting involved. We've had flashes in the pan in past years, a school district here and there with an ESCO involved, but I don't recall ever seeing any meaningful follow-through. Is this data center situation -- what are the implications of it?

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [24]

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Sure. Well, there's different types of ESCOs and maybe I'll just start of by saying -- and some people, you mention ESCO, some people immediately think of the big ones. There's Honeywell, Johnson Controls, Siemens, Ameresco, et cetera. And indeed, we have done a fair amount of projects with some of those, without being specific, of course. But we have a few school districts and other projects that we've done with some of those name-brand ESCOs that perhaps, Roger, I could talk with you offline about. But these ESCOs that we're dealing with now are more financially focused. So they're not outsourcing the projects. [So they're not] sniffing out that school system. They're turning to us with a portfolio of dollars and saying, we want to invest this in reliable, revenue-generating assets. Do you have any projects? And so we end up -- Tecogen does the due diligence on these things, which is very important, Roger. Because as you know, if you don't do proper due diligence on these long-term projects, you're going to get skinned alive. So we do our due diligence on them. We come up with the product portfolio of choice, trigen, cogen, chiller, et cetera, and the costs, and we'll present all of that to that ESCO. And if it meets their financial metrics and their hurdle rates, they'll go forward and then they end up leading the agreement, it's a triangular agreement, Roger, right? So they'll -- the ESCO will set up an agreement with the host site, in this case the building owner of the data center in Manhattan. The ESCO will set up an agreement with us to build the system, commission it and do the long-term O&M. And they're paying for everything. And then they, of course, get the long-term revenue. So the type of ESCOs we're working with on this data center project and the other ones going forward -- and SDCL is another one -- really financially involved and not -- and this is a very important point, not trying to force projects down our throat that don't make financial sense. We're only promoting projects to them that make financial sense.

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Donald Roger Brooke Liddell, Clear Harbor Asset Management, LLC - Managing Member, Investment Manager and Vice-Chairman [25]

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Okay. Sounds very encouraging. The second point is, I'm pleased with the 3 chillers sold to the Florida indoor grower. I don't think you said cannabis, but if you could clarify in your answer whether it's vegetables, whatever, versus cannabis. But I take it the lack of a service center in Florida was a headwind in the past. Is this Tecochill order a harbinger of fewer headwinds, more tailwinds and will that service center help in trying to crack the health care facilities and the emergency -- I mean, the long-term backup power mandated after Irma?

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [26]

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Sure, yes. And you hit the nail on the head, Roger, about that -- those 3 chillers sold. And that grower facility, out of respect for the customer, I will just tell you it's not cannabis. It's some type of produce. But you're exactly right, that is the reason why we stood up our Florida service center, is because -- I think we maybe have mentioned in the past, we reach a tipping point of engines. When you reach a certain amount of engines, it becomes cost effective from a revenue and margin standpoint to have a guy down there. And we've reached that point. And we now have our office set up down there. And the way this typically unfolds is as, now that you got a guy down there, you get more comfortable putting more engines there. And then he gets an assistant and then eventually you stand up a real, proper territory. And my goal for Florida, of course, is it can be the touchstone for the Caribbean. As we start to sell product, maybe not cogen, but certainly as I'm envisioning TecoFrost, that would be the service center to service the Caribbean. But as to your other question, absolutely, Florida and health care and the problems that they have down there with resiliency comes to mind how people [chuck] their chilling systems. And we have -- and now we have, of course, our Tecochill and now we have our TecoFrost. And we even have our seldomly talked about air-source chiller unit, which is still very functional and used in some cases. And that air-source unit is typically what you'd see in a nursing home, a 150-bed or a 200-bed nursing home in Florida. And importantly, Roger, as I mentioned repeatedly at this point, the chiller replacement has so much better economics in terms of ROI. All you have to do is justify your incremental cost. So you can get away with a smaller spark spread is what I'm getting at. So areas like Florida maybe don't have the robust spark spread of a New York or a California, they still got a good spark spread that's maybe not great for cogen, but absolutely fitting for chillers. And so we're starting to see that down there. The growing facilities erupting down there is certainly helpful to us. So a great way for us to really populate that Florida territory with engines.

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Donald Roger Brooke Liddell, Clear Harbor Asset Management, LLC - Managing Member, Investment Manager and Vice-Chairman [27]

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Okay. California, you touched on the fact that the generators were now permitted. I take it this is separate qualification permit from South Coast Air Quality Management District. That was a year ago now, as I recall. So what's new? And talk to me about the opportunity. And if there isn't a meaningful opportunity, I would expect your candor on that. It's a nice to have, but it's not going to be transformational.

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [28]

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Sure. I think Bob's closest to that. I'll maybe let him answer that. Well, anyway, Roger, you have may have noticed that Bob is actually not in the office with us. Oh, okay, there you are.

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Robert A. Panora, Tecogen Inc. - President & COO [29]

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Yes. I'm sorry, Roger. When you spoke the first sentence in your question, I'm getting an incoming call on my cell phone and it blocked your voice. Could you repeat that question for me?

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Donald Roger Brooke Liddell, Clear Harbor Asset Management, LLC - Managing Member, Investment Manager and Vice-Chairman [30]

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Yes. There was brief mention made of a level of permitting on generators and I want to know whether this is different and an advance beyond the South Coast Air Quality Management District certification of a year ago? And is there a meaningful opportunity in this generation area in California or should I ignore it and move on to something else?

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Robert A. Panora, Tecogen Inc. - President & COO [31]

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Yes. So just to be clear, the -- we have done CHP in Southern California to that same rule. But when we do CHP, they give us a credit because of the hot water, we're allowing the hot water boiler to shut off. So we get a little bump in the number that we have to meet. And of course, any [emergency] generators, they get a very -- much looser standard if they're only going to run 200 hours a year. So these machines have no heat recovery benefit, no limitation on run hours, and they were permitted to the lowest level ever under that rule. No one's done it as far as I know. And I'm sure no one's done it. So the question is, can you make a market with this? And you could conceivably sell customers who want to do demand management of their peaks and valleys of power. You can see situations where people want resiliency and they want to have a grid that's going on. But we haven't been able to capitalize on that yet because frankly, in California, there's just not -- there's a very regulatory bias against fossil fuels. That's one of our problems there. And so if you want to participate in the utility programs there, we were disappointed to learn that they prohibited anything but batteries from being in that demand management that are formal programs where you can get reimbursed by the utilities. This is not -- this is just for that -- for this particular regulatory benefit that's happening now. So that's the kind of headwind we expect in California. So to answer your question, I think we have a ways to go in order to make hay with this achievement.

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Operator [32]

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Thank you. We have reached the end of our question-and-answer session. So I would now like to turn the floor back over to Mr. Locke for any additional concluding comments.

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Benjamin M. Locke, Tecogen Inc. - CEO & Director [33]

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Well, I want to thank all of you for your interest in Tecogen. And I look forward to sharing more news with you on our progress as it occurs. Thank you, again.

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Operator [34]

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Thank you. Ladies and gentlemen, this does conclude today's teleconference. Again, we thank you for your participation and you may disconnect your lines at this time.