Hydrogenics Corporation

The Hydrogenics case is the first in a series of four cases that illustrate a comprehensive analysis of an international corporation. In this case the balance sheet will be analyzed with the income statement and cash flow statement analyzed in cases for Chapters 3 and 4. Chapter 5 will include a comprehensive analysis of Hydrogenics using the information from Chapters 2 through 5. The financial statement analysis template can be accessed and used at www.pearsonhighered.com/fraser. The balance sheet for Hydrogenics and excerpts from the notes to the financial statements are included after the instructions for the case.

Required:

(a) Once you have linked to the template you should see a window that asks whether you want to enable the macros. You must click on "Enable Macros" to use the template. (You may have to change the security setting on your computer in order to use this feature.) Familiarize yourself with the instructions. The tab for the instructions is at the bottom of your screen and is labeled "ReadMe." Print out a copy of the instructions to be used for all Hydrogenics cases in each chapter of the text. Click on the link at the bottom of the screen labeled "Cover." Enter the required data in the template for Hydrogenics with the exception of the check figures for the income statement and the cash flow statement which will be added to the cover sheet when completing Hydrogenics cases in Chapters 3 and 4. Use the instructions to help you locate the necessary information. The amount for "Rent Expense" can be found in Note 20 under the heading "Commitments". Note 27 addresses dividends. Print the cover sheet when it is completed. Save the template on your computer or a disk in order to use it with subsequent problems in later chapters.

(b) Click on the "Balance Sheet" link at the bottom of the template. Input the data from the Hydrogenics balance sheet by clicking on the "Edit" link at top of balance sheet page. Hydrogenics has combined multiple different accounts into one category for several line items on the balance sheet. For example, accounts payable has been included with other current liability accounts in the line item "Trade and other payables". Information in excerpts of Notes 4, 6, 9 and 11 should help you identify the correct amounts to input on the balance sheet. When you have finished inputting the data, review the balance sheet to make sure there are no red blocks indicating that your numbers do not match the cover sheet information check figures. Make any necessary corrections before printing out both your input and the common-size balance sheet that the template automatically creates for you.

(c) Using the Hydrogenics balance sheet, common-size balance sheet and excerpts from the notes, evaluate the asset, liability and equity structure of the firm. Explain trends and changes found on the common-size balance sheet. Assess the sources of liquidity.

(d) Analyze accounts receivable and the allowance for doubtful accounts. The sales growth rate is 33.81% from 2012 to 2013.

(e) Describe the commitments, contingencies and guarantees of Hydrogenics and the significance of these items.

HYDROGENICS CORPORATION CONSOLIDATED BALANCE SHEETS

(in thousands of US dollars)

December 31

December 31

2013

2012

Assets

As Revised (Note 2)

Current assets

Cash and cash equivalents

S 11,823

$ 13,020

Restricted cash (note 23)

635

3,039

Trade and other receivables (note 4)

5,391

5,769

Grants receivable

-

16

Inventories (note 5)

12,821

11,848

Prepaid expenses

979

915

31,649

34,607

Non-current assets

Restricted cash (note 23)

1,389

743

Property, plant and equipment (note 6)

1,684

1,399

Intangible assets (note 7)

100

107

Goodwill (note 8)

5,248

5,021

8,421

7,270

Total assets

S 40,070

S 41,877

Liabilities

Current liabilities

Trade and other payables (note 9)

S 13,193

$ 11,551

Warranty provisions (note 10)

1,912

1,252

Deferred revenue

6,348

11,706

Warrants (note 12)

1,075

1,545

22,528

26,054

Non-current liabilities

Other non-current liabilities (note 11)

3,095

2,384

Non-current warranty provisions (note 10)

981

556

Non-current deferred revenue

7,305

8,576

Total liabilities

33,909

37,570

Equity

Share capital (note 12)

333,312

323,513

Contributed surplus

18,449

17,995

Accumulated other comprehensive loss

(249,

(758)

Deficit

(345,351)

(336,443)

Total equity

6,161

4,307

Total equity and liabilities

S 40,070

S 41,877

Contingencies and guarantees (notes 21 and 23)

The accompanying notes form an integral part of these consolidated financial statements.

Excerpts from Notes to Consolidated Financial Statements (in thousands of US dollars, except share and per share amounts)

Note 1Description of Business

Hydrogenics Corporation and its subsidiaries ("Hydrogenics" or the "Corporation") design, develop and manufacture hydrogen generation products based on water electrolysis technology, and fuel cell products based on proton exchange membrane ("PEM") technology. The Corporation has manufacturing plants in Canada and Belgium, a satellite facility in Germany, and a branch office in Russia. Its products are sold throughout the world.

The Corporation is incorporated and domiciled in Canada. The address of the Corporation's registered head office is 220 Admiral Boulevard, Mississauga, Ontario, Canada. The Corporation is a public corporation and its shares trade under the symbol "HYG" on the Toronto Stock Exchange and under the symbol "HYGS" on the NASDAQ.

Note 2Basis of Preparation, Summary of Significant Accounting Policies, Judgments and Estimation Uncertainty

Basis of preparation

The Corporation prepared its consolidated financial statements in accordance with International Financial Reporting Standards ("IFRS") as issued by the International Accounting Standards Board ("IASB").

The policies applied in these consolidated financial statements are based on IFRS policies effective as of December 31, 2013. The Board of Directors approved the consolidated financial statements on March 6, 2014.

Summary of significant accounting policies

Inventories

Raw materials, work-in-progress and finished goods are valued at the lower of cost, determined on a first-in first-out ("FIFO") basis, and net realizable value. Inventory costs include the cost of material, labour, variable overhead and an allocation of fixed manufacturing overhead including amortization based on normal production volumes. Net realizable value is the estimated selling price less estimated costs of completion and applicable selling expenses. If carrying value exceeds the net realizable amount, a writedown is recognized. The writedown may be reversed in a subsequent period if the circumstances causing it no longer exist.

Property, plant and equipment

Property, plant and equipment are stated at cost less accumulated depreciation and accumulated impairment losses. Cost includes expenditures that are directly attributable to the acquisition of the asset. Subsequent costs are included in the asset's carrying value or recognized as a separate asset, as appropriate, only when it is probable that future economic benefits associated with the item will flow to the Corporation and the cost can be measured reliably. The cost and accumulated depreciation of replaced assets are derecognized when replaced. Repairs and maintenance costs are charged to the consolidated statements of operations and comprehensive loss during the period in which they are incurred.

Depreciation is calculated on a diminishing balance method to depreciate the cost of the assets to their residual values over their estimated useful lives. The depreciation rates applicable to each category of property, plant and equipment are as follows:

Furniture and equipment

20% per annum

Computer hardware

30% per annum

Automobiles

30% per annum

Leasehold improvements are depreciated on a straight-line basis over the term of the lease.

Residual values, method of depreciation and useful lives of the assets are reviewed at least annually and adjusted if appropriate.

Construction-in-progress assets are not depreciated until such time they are available for use. Depreciation ceases at the earlier of the date the asset is classified as held-for-sale and the date the asset is derecognized.

Gains and losses on disposals of property, plant and equipment are determined by comparing the proceeds with the carrying value of the asset and are included as part of other gains and losses in the consolidated statements of operations and comprehensive loss.

Leases

Leases are classified as finance leases when the lease arrangement transfers substantially all the risks and rewards of ownership to the lessee. All other leases are classified as operating leases. The assets held under a finance lease are recognized as assets at the lower of the following two values: the present value of the minimum lease payments under the lease arrangement or their fair value determined at inception of the lease. The corresponding obligation to the lessor is accounted for as long-term debt. These assets are depreciated over the shorter of the useful life of the assets and the lease term when there is no reasonable certainty the lessee will obtain ownership by the end of the lease term. Payments made under operating leases (net of any incentives received from the lessor) are charged to the Consolidated Statement of Operations and Comprehensive Loss on a straight-line basis over the period of the lease.

Out of period adjustments

In connection with the preparation of the Corporation's consolidated financial statements for the year ended December 31, 2013, adjustments were identified relating to prior periods. The out of period errors identified relate to several items that are individually immaterial and the impact on each financial statement line is summarized in the tables below.*

The Corporation assessed the errors and concluded that the related amounts were not material to any of its previously issued financial statements, either individually or in the aggregate. However, the Corporation elected to revise its previously issued consolidated financial statements to correct the effect of these errors. This non-cash revision does not impact cash flows for any prior period.

Note 4Trade and Other Receivables

December 31 2013

December 31 2012

Trade accounts receivable

$ 4,864

$ 5,148

Less: Allowance for doubtful accounts (note 27)

(139)

(124)

Goods and services tax and other receivables

666

745

$ 5,391

$ 5,769

Note 6Property, Plant and Equipment

Reconciliations of the carrying amounts of each class of property, plant and equipment at the beginning and end of the current and previous years are set out below.

Test Equipment

Furniture and Equipment

Computer Hardware

Leasehold Improvement$

Automobiles

2013

2012

2013

2012

2013

2012

2013

2012

2013

2012

Carrying amount, beginning of year

$ 15 $

18

$ 946

$1,090

$ 126

$ 143

$ 305

$ 539

$ 7

$ -

Addition$

194

-

672

277

32

44

12

94

28

9

Di$po$al$

-

-

-

(2,

(3,

(4,

-

-

-

-

Depreciation

expen$e

(34)

(2)

(348)

(433)

(53)

(58)

(233)

(328)

(5)

(2)

Foreign currency

exchange

(8)

(1)

29

14

1

1

1

-

-

-

Carrying amount, end of year

$ 167 $

15

$1,299

$ 946

$ 103

$ 126

$ 85

$ 305

$ 30

$ 7

Property, plant and equipment under construction, at December 31, 2013, not yet subject to depreciation, amounted to $nil (2012 - $39).

Depreciation of $405 (2012 - $752) is included in the consolidated statements of operations and comprehensive loss in selling, general and administrative expenses and $268 (2012 - $71) is included in cost of sales.

Note 9Trade and Other Payables

Accounts payable and accrued liabilities are as follows:

December 31

December 31

2013

2012

Trade accounts payable

$ 3,115

$ 5,285

Accrued payroll and related compensation

3,871

2,233

Supplier accruals

1,402

721

Liabilities for compensation plans indexed to the share price

3,182

1,700

Current portion of repayable government contributions

465

453

Accrued professional fees

270

195

Current portion of post-retirement benefit liability

83

100

Facility accruals

13

13

Other

792

851

$ 13,193

$ 11,551

Note 11Other Non-current Liabilities

Other non-current liabilities are as follows:

December 31

December 31

2013

2012

Long-term debt (i)

$ 2,260

$ 1,288

Non-current post-retirement benefit liability (ii)

309

418

Non-current repayable government contributions (iii)

526

678

$ 3,095

S 2,384

Note 20Commitments

The Corporation incurred rental expenses of $845 under operating leases in 2013 (2012 - $906). The Corporation has future minimum lease payments under operating leases relating to premises, office equipment, and vehicles as follows:

2014

1,083

2015

1,085

2016

1,023

2017

794

2018

692

Thereafter

-

$ 4,677

Note 21Contingencies

The Corporation has entered into indemnification agreements with its current and former directors and officers to indemnify them, to the extent permitted by law, against any and all charges, costs, expenses, amounts paid in settlement, and damages incurred by the directors and officers as a result of any lawsuit or any other judicial, administrative or investigative proceeding in which the directors and officers are sued as a result of their service.

These indemnification claims will be subject to any statutory or other legal limitation period. The nature of the indemnification agreements prevents the Corporation from making a reasonable estimate of the maximum potential amount it could be required to pay to counterparties. The Corporation has purchased directors' and officers' liability insurance. No amount has been recorded in the consolidated financial statements with respect to these indemnification agreements, as the Corporation is not aware of any claims.

Note 23Guarantees

At December 31, 2013, the Corporation had outstanding standby letters of credit and letters of guarantee issued by several financial institutions that totalled $7,614 (2012 - $9,092), with expiry dates extending to August 2017. The Corporation has restricted cash totalling $2,024 as partial security for these standby letters of credit and letters of guarantee with $1,730 restricted in Hydrogenics Europe NV, $188 restricted in Hydrogenics Corporation, and $106 restricted within the German entity included in the Power Systems business segment. These instruments relate primarily to obligations in connection with the terms and conditions of the Corporation's sales contracts. The standby letters of credit and letters of guarantee may be drawn on by the customer if the Corporation fails to perform its obligations under the sales contracts and the Corporation would be liable to the financial institution for the amount of the standby letter of credit or letter of guarantee in the event the instruments are drawn on.

Note 27Risk Management Arising From Financial Instruments and Capital Management

Liquidity risk

The Corporation has sustained losses and negative cash flows from operations since its inception. At December 31, 2013, the Corporation had $11,823 (2012 - $13,020) of current cash and cash equivalents. Liquidity risk is the risk the Corporation will encounter difficulty in meeting its financial obligations associated with financial liabilities that are settled by delivering cash or another financial asset. The Corporation is exposed to liquidity risk as it continues to have net cash outflows to support its operations. The Corporation's objective for liquidity risk management is to maintain sufficient liquid financial resources to fund the consolidated balance sheets, pursue growth and development strategies, and to meet commitments and obligations in the most cost-effective manner possible. The Corporation achieves this by maintaining sufficient cash and cash equivalents and short-term investments and managing working capital. The Corporation monitors its financial position on a monthly basis at minimum, and updates its expected use of cash resources based on the latest available data. Such forecasting takes into consideration the Corporation's financing plans and compliance with internal targets. A significant portion of the Corporation's financial liabilities are classified as current liabilities, as settlement is expected within one year.

The following table details the Corporation's contractual maturity for its net financial liabilities. The information presented is based on the earliest date on which the Corporation can be required to pay and represents the undiscounted cash flow including principal and interest.

At December 31, 2013

Due within one year

Due between one and two year$

Due between three and five year$

Due between $ix and ten year$

Trade and other payable$

$ 12,628

$ -

$ -

$ -

Warrant$

1,075

-

-

-

Repayable government contribution$

465

209

317

_

Long-term debt

-

-

2,196

3,035

Credit risk

Credit risk arises from the risk that one party to a financial instrument will cause a financial loss for the other party by failing to discharge an obligation. The Corporation is exposed to credit risk from customers. At December 31, 2013, the Corporation's two largest customers accounted for 34% of revenue (20% at December 31, 2012) and 42.6% of accounts receivable (39.4% at December 31, 2012). In order to minimize the risk of loss for trade receivables, the Corporation's extension of credit to customers involves a review and approval by senior management as well as progress payments as contracts are executed and, in some cases, irrevocable letters of credit. The majority of the Corporation's sales are invoiced with payment terms between 30 and 60 days. The Corporation's objective is to minimize its exposure to credit risk from customers in order to prevent losses on financial assets by performing regular monitoring of overdue balances and to provide an allowance for potentially uncollectible accounts receivable. The Corporation has also insured a portion of its outstanding accounts receivable with Export Development Canada.

The Corporation's trade receivables have a carrying value of $4,864 at December 31, 2013 (2012 - $5,148), representing the maximum exposure to credit risk of those financial assets, exclusive of the allowance for doubtful accounts and insurance.

The aging of these receivables is as follows:

2013

2012

Not due

91%

76%

Less than 30 days past due

1

3

Less than 60 days past due, more than 30 days past due

3

17

More than 60 days past due

5

4

100%

100%

The Corporation's gross exposure to credit risk for trade receivables by geographic area at December 31 was as follows:

2013

2012

Europe

74%

88%

North America

13

6

Asia

7

2

Rest of world

6

4

100%

100%

The activity of the allowance for doubtful accounts for the year is as follows:

2013

2012

Allowance for doubtful accounts, beginning of year

$ 124

$ 198

Bad debt expense

15

3

Reversal of bad debt expense

-

(11)

Writeoff of bad debts

-

(66)

Allowance for doubtful accounts, end of year

$ 139

$ 124

The Corporation believes the credit quality is high for the accounts receivable, which are neither past due nor impaired based on prior experience of collections of accounts within 0-60 days of the payment term on the invoice.

Management of capital

The Corporation's objective in managing capital is to ensure sufficient liquidity to pursue its growth strategy, fund research and product development and undertake selective acquisitions, while at the same time, taking a conservative approach toward financial leverage and management of financial risk.

The Corporation's capital is composed of long-term debt and shareholders' equity. The total capital at December 31, 2013 is $8,647 (2012 - $5,595). The Corporation's primary uses of capital are to finance operations, increase non-cash working capital and capital expenditures. The Corporation currently funds these requirements from existing cash resources, cash raised through share issuances and long-term debt. The Corporation's objectives when managing capital are to ensure the Corporation will continue to have enough liquidity so it can provide its products and services to its customers and returns to its shareholders.

The Corporation monitors its capital on the basis of the adequacy of its cash resources to fund its business plan. In order to maximize the capacity to finance the Corporation's ongoing growth, the Corporation does not currently pay a dividend to holders of its common shares.