The Exchanges

Q And so where are we today? Like, what are current lead times for distribution transformers?

A It's still really, really long. I mean, so I like to think about distribution transformers in, in three different flavors, a single phase pole top transformer, a single phase pad, And then a three-phase transformer. Generally, those are pad, uh, pad-mounted transformers, but occasionally you'll see them overhead as well. The single-phase pole-mount transformers, the, the gray ones that are up on a utility pole, I think the supply chain there is getting closer to being caught up, right? And so lead times are, are normalizing. They still might be upwards of a full year just because of the backlog that was built. Uh, but I think supply and demand are starting to stabilize in that space. But those pad bound transformers, both single phase and three phase, still pretty darn long. Uh, I've seen things as long as two years right now, uh, on either.

AI assessment note: “They still might be upwards of a full year... things as long as two years”

Q price. Um, one presumes that in a supply-constrained market with increasing lead times, You would also see increasing prices. Can you talk about what price trends have been like for distribution transformers? And maybe to the extent that you have visibility into this, like how big a deal does that end up being for those end customers, right? Or for, I guess, utilities who are having to pay for them.

A Yeah. So pricing has increased a lot over the last couple of years. I would say on average, 75 to a hundred percent increase in price. Um, I would say the last two years, so 20, 23 and going into 24, Much more stability, maybe a five percent increase in 23. Right now I'm projecting a, you know, a flat to a five percent increase in twenty-twenty-four. Uh, so we're getting a little bit more stability now. I'll tell you that the customer base, the utilities, it's, it's painful for them, right, because it's costing them a heck of a lot more to put these transformers onto the grid. They have to then go ahead and get, um, you know, they're gonna have to get reimbursed from that through the rate payer, right, the consumer, you and I. Uh, Shale, we're gonna, we're the, we're the ones that are gonna ultimately pay the bill. And, and of course, they're going to their regulators to get changes to rate cases that sometimes are being pushed back on. So it's causing a little bit of, of angst in the marketplace right now, but it's really tough, right? Because as, as I'm seeing increased costs on electrical steel, on oil, on copper, on aluminum, um, I have to pass that on, right? I, I can't, I can't bear the cost of that all as a manufacturer. And so most of the increase Has really been nothing more than a pasture of commodity prices and, of course, wage pressure for, for our workforce.

AI assessment note: “I would say on average, 75 to a hundred percent increase in price.”

Q as I understand it, but starting with breaking down the transformer market, obviously transformers are not one thing. We use them, uh, all sorts of different places across the electricity supply chain, the value chain. So give me high level, how you think about the buckets of different types of transformers and then where within those buckets have we been seeing the most stress in the past couple of years?

A Yeah, great. Good question. And, and, you know, from the, from the power generation plant to the endpoint, there's, there's a handful of places throughout those power lines where you're going to see different transformers. I like to think about it as, as really starting right at the power plant. Large power transformers are going to step up that, that, um, generated power to an extremely high voltage. That's going to go on a transmission line. Ultimately, that transmission line is going to take it into a substation, step it down, uh, to a distribution voltage level. And then ultimately push that electricity down to a, to a house or to a factory or to a, you know, an apartment complex, and that's going to go through a distribution transformer, either a single phase or a three phase transformer. Um, and in my opinion, I think that's really where a lot of the focus has been in the United States over the past couple years where the, where the demand for that transformer has really shot up and the ability for manufacturers like Irmco, uh, to, to keep up has been, has been extremely challenging.

AI assessment note: “distribution transformer... that's really where a lot of the focus has been”

Q assume everybody has woken up to the fact that this wasn't a temporary phenomenon, and Um, for some reason, it must still be hard to expand manufacturing capacity. Otherwise, correct me if I'm wrong, we probably would have seen it already. So is that true? And if so, like, what makes it difficult? Why haven't you been able to just double your manufacturing capacity to meet all this new demand?

A Yeah, so again, I, I think I shared earlier, um, looking at it from Irmco's perspective, and again, I believe most of the, um, competitive manufacturers of distribution transformers would say the same. We kind of got to the point where we were saturated. We were at full output. We were at full capacity. Yeah, maybe we're operated at 90, 92% instead of a hundred percent, but as this demand started to grow, we, we were getting nearer and nearer to a hundred. So the ability to get that next incremental unit out became very challenging. We were already operating the facilities 24 hours a day, five days a week. Um, so you had a little bit of opportunity if you could expand your labor force In order to get those extra two days of asset productivity, uh, but challenge to do it in a very tough labor market, particularly think back to the COVID years, uh, trying to get people to go back into the office was difficult to say the least. Um, and then you couple that with where most of the transformer manufacturing is happening out in rural America, smaller communities, uh, there's just not a ton of excess labor sitting out there. I mean, again, look at unemployment across the United States right now, still very, very low. So being able to try to add a ton of people, and we're not talking a few, you're talking hundreds of people to get a new production line staff, um, it's challenging. And t…

AI assessment note: “you had to add a new facility or a new line, you're talking hundreds”

Q So, okay, so we'll talk mostly about that last mile distribution transformer, because that's been where the, the challenge has been. So maybe take me back in history to before this current shortage, what was the norm? Like, if I needed to order distribution transformers in the United States, what would that look like for me in, I don't know, 2018?

A Yeah, so in 2018, I think most customers, most utilities, Felt really, really comfortable with the, with the distribution transformer supply chain. They'd pick up the phone, or they'd, they'd shoot over a PO, and in anywhere from 12 to 14 weeks, that transformer was showing up on their doorstep. And if they were ordering 10, or a hundred, or 200, manufacturers were able to respond to it. Um, but then something started to change, right? I mean, I, I think what happened was slowly, slowly, because of dynamics in the, in the marketplace, The demand was rising much, much quicker than the, than the manufacturing base was being able to produce additional output. And ultimately, we got to a point where we were at max capacity, but demand didn't stop there. It just kept on rising. So in the 20, 20, 21 time frame, uh, things were getting really, really crazy and supply chains, excuse me, uh, lead times started jumping way out there. And I think it was causing, uh, a lot of concern and a lot of panic in the marketplace because what used to be A pretty quick turnaround, uh, was now all of a sudden unpredictable, and, and even, even after a lead time was given, it was undependable as to whether the manufacturer would actually hit it.

AI assessment note: “in anywhere from 12 to 14 weeks, that transformer was showing up”

Q to 10 times the lead time, which is wild that that's lasted for, you know, a couple years now. Have you seen that? I mean, you've been in this business a long time. Like, have we ever seen, uh, lead times get that long, or this kind of a shortage, or is this, is it like a cyclical market that goes through these types of periods, or is this anomalous?

A So, you know, it's a really interesting question. I, I, I look back over history, right? And, and I tried to understand what are the fundamental demand drivers in the, in the distribution transformer space. Uh, and, and there was a really strong correlation between volume output of transformers and the housing market, right? So those, those were, were heavily correlated. And so, yeah, you asked, has there ever been a time in history where lead times got that long? There was. 2006 and 2007, where housing starts in the U.S. were, you know, approaching two million a year. Uh, But then that housing market crashed, and of course the, the need for transformers also crashed at that point in time, and I think that was the start of the change of the dynamics in the industry. I, I think that caused a lot of manufacturers to either exit the market altogether or certainly, certainly change their allocation of resource to production of, of distribution transformers. My gut tells me if you looked at the total capacity in the U.S. for building a transformer in 20 or 2007 versus 20 21, it was probably constant. Well, what happened in that time period? Dynamics and, and, and the need to upgrade our infrastructure, the investment coming from the federal government, uh, the electrification of everything, right? The advent of, of EVs and putting that on, put a whole new strain on the supply chain …

AI assessment note: “There was. 2006 and 2007, where housing starts in the U.S. were”

Q and pay more for given, given tariffs in order to do it. Um, Before we move on from steel entirely, you mentioned amorphous steel. There's an additional dynamic at play there which has to do with, with regulation, right? And, and DOE is sort of stepping in on regulations regarding distribution transformers in a way that can impact our ability to scale up manufacturing. So how does that play in?

A Yeah, regulation is, is, is certainly a factor right now, and it's, and it's one that's probably causing all of us to, to think long and hard about what investments we want to make and, and how we want to place bets about the future of the industry. Um, so very specifically, I described grain order and electrical steel to make the core of the transformer. Amorphous steel is an alternative to that. The difference between the two, uh, I'm not going to get into the metal or metallurgy of it, but The difference of the two is that the, the amorphous steel has properties that allows a lower loss of energy, uh, through the transformer, particularly when it's not at load. So that those no load losses are, are much better with amorphous steel. Uh, and you know, the implication there is if you had all of the transformers in the world with amorphous steel, then you're not going to, um, have as much, you're not going to need to generate as much power In order to actually support the load that's happening, because we're not going to have as much inefficiency. So it's a raise in standards of efficiency that grain-oriented steel, in its current form, really can't keep up with. It's just not capable of doing it. The problem is about, I'm guessing, 95 to 98% of all the transformers that are being produced in America are using grain-oriented steel. And for me to change the process of In order to…

AI assessment note: “it's a raise in standards of efficiency that grain-oriented steel, in its current form, really can't keep up with”

Q and, and so on. What's the prognosis? Like, do you, is, is, are you working to expand manufacturing capacity despite the time that it takes and, Um, all the challenges is everybody else, and are we gonna see this, you know, are we gonna break the back of the supply chain bottleneck in the, in the near term, or do you think this is kind of just the new normal?

A Again, I say, I said it earlier, America rises to a channel challenge, and I think that's gonna happen in this industry as well. Uh, I, I know there's been a lot of announcements over the past 12 months in terms of expanding capacity in the transformer market. Um, on the single-phase side, on the three-phase side, um, and I do think that's gonna bring some relief. My company completed a major acquisition at the end of twenty-twenty-two. We saw, uh, a business out there that we thought had a lot more runway in terms of expanding output, uh, than, than the legacy Urmco business did, um, and we're watching that come to fruition right now. You know, the two companies had one year together, uh, in twenty-twenty-three, we drove about 85,000, uh, Additional transformers out the door in that 12 month period prior to the, you know, over and above 2022. Um, and we expect to see an increase similar to that going into 2024. So I, I think there's a lot of movement to get the problem fixed to close that supply and demand gap. I could tell you that's the number one focus of my company. Um, and again, I think the competition is, is doggedly focused on the same. So I do see Relief in sight. I think the single phase pole problem is nearing the end of the line. Um, and then I think the, the, the single phase pad and three phase problem is probably going to be a little bit painful for the next 12 …

AI assessment note: “I do see Relief in sight. I think the single phase pole problem is nearing”

Q said, well, I don't know if this will be sustained, and so didn't ramp up manufacturing capacity as fast as they could have, because they had learned the history of the housing crisis, and, and didn't want to get out over their skis. Do you think that's a possibility, or was this more of a, like, all hands on deck immediately, and nobody could keep up sort of a situation?

A Oh, no, I think, I think it's more the former than the latter, than the latter. I, I think people certainly, Uh, saw what was happening. Uh, I, I know, you know, my company felt it. We, we saw the orders coming in faster than we could possibly produce them. So it'd be really surprising to me if people were totally flat-footed. It was like, well, what can we do about it in the short run if, in fact, this does not sustain for decades? Because at the end of the day, in order to change your output, it's not a flip of a switch. It's a, it's a, it's a tremendous amount of work or a tremendous amount of investment In order to make that happen. And, and I think most of us looked at and says, boy, I don't know how to respond to what the market is telling me.

AI assessment note: “I think it's more the former than the latter”

Q to do. You, you mentioned using amorphous steel. It's more efficient despite all the challenges with getting it ramped up in the supply chain and so on. What else do you see on the horizon that, that you think is promising? People talk about solid state transformers and all sorts of other things. What to you seems like it might have legs as the sort of next generation transformer platform?

A You know, people have been talking about solid state transformer for, for quite some time. I think there's some good proof of concepts out there. I'll tell you that, uh, you know, one of the technologies that GridBridge, or excuse me, that ERMCO has been working on through our GridBridge subsidiary, um, has actually been put into test into Europe right now. Uh, we call it the, the low voltage engine or the LV engine program. Yeah. So we're spending a lot of time thinking about power electronics and how we could use that technology, uh, to better control full, Flow of electricity through a transformer, uh, and, and create a more efficient, uh, overall experience. So, uh, I, I think we're, we're years out. It's a, it's a more expensive technology right now, just because of adoption. Uh, but in the long run, I think if we continue to invest, there could be some, some fruit, um, on those trees.

AI assessment note: “we call it the, the low voltage engine or the LV engine program.”

Q is? I mean, it's not like new housing was shooting upward this time, and I think you could ascribe it to electrification, you know, vehicle electrification and so on, but, but I wonder whether there was, you know, enough to show for that already that you would have seen a change in the curve of demand for Transformers. So, how much was demand growing, and, and do we know why?

A Yeah, so, I want to rewind the clock to 20, 20 and 21 for a second, because I think it's important for people to understand The initial reaction in the marketplace was that this was the COVID response. This was, uh, the inability of the manufacturer to produce as many transformers as they had been doing the year prior, right? This is the same thing that people were experiencing all over, uh, the United States and the world for that matter. But this wasn't, this was not the microchip problem, right? That was preventing automobiles from being produced, where, where literally you couldn't get the Componentry, the, the, the necessary input to produce the output. This was the toilet paper example, right? Where people went to the stores in, in, in irrational fashion and, and, and demanded much more than, than what a Kimberly Clark could produce or whomever makes toilet paper. I actually don't know who those manufacturers are. And, and so what was happening in the, in the transformer world is because going into COVID, uh, People were getting those deliveries on a consistent basis in 12 to 14 weeks. They weren't placing their orders. They weren't, they weren't getting in front of what their consumption was going to be from a utility perspective, because they didn't think they had to worry about it. Well then, as, as those orders started coming in, and the supply, and the lead times wer…

AI assessment note: “This was the toilet paper example, right? Where people went to the stores in irrational fashion”