A123 Shows Risks as Battery Science Meets Government Cash

Photographer: Jeffrey Sauger/Bloomberg

Crates of batteries move on an assembly line at the A123 Systems lithium ion automotive battery manufacturing plant in Livonia, Michigan, in 2010. The company, co-founded by a 26-year-old from MIT, produced faulty batteries that forced its main customer, Fisker Automotive Inc., to recall hundreds of $103,000 cars. Close

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Photographer: Jeffrey Sauger/Bloomberg

Crates of batteries move on an assembly line at the A123 Systems lithium ion automotive battery manufacturing plant in Livonia, Michigan, in 2010. The company, co-founded by a 26-year-old from MIT, produced faulty batteries that forced its main customer, Fisker Automotive Inc., to recall hundreds of $103,000 cars.

A123 Systems Inc. (AONEQ), the electric-car battery maker that filed for bankruptcy this week, had promising chemistry and marquee customers. What it couldn’t overcome, even with government funding, were missteps in manufacturing.

A123’s filing immediately became a presidential campaign issue, because the Obama administration pledged $249.1 million in grants three years earlier to help the company bring jobs and factories to the U.S. Republican Mitt Romney’s campaign pointed to the bankruptcy as an example of President Barack Obama’s failures in economic policy.

The company, co-founded by a 26-year-old out of the Massachusetts Institute of Technology, produced faulty batteries that forced its main customer, Fisker Automotive Inc., to recall hundreds of $103,000 cars. The technology won’t disappear: Johnson Controls Inc. (JCI), a partsmaker based in Milwaukee, has offered to buy A123’s auto-battery business.

“This demonstrates just how difficult it is to get this battery revolution under way,” said Ed Kim, an analyst at AutoPacific Inc. in Tustin, California.

The bankruptcy followed A123’s attempt to sell a controlling stake to a Chinese company, an effort that fell apart amid scrutiny by congressional Republicans. The offer from Johnson Controls has to be approved by a U.S. Bankruptcy Court and could be topped by a rival bidder.

Photographer: Jeffrey Sauger/Bloomberg

A sign sits on display at the new A123 Systems lithium ion automotive battery manufacturing plant in Livonia, Michigan, on Sept. 13, 2010. Close

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Photographer: Jeffrey Sauger/Bloomberg

A sign sits on display at the new A123 Systems lithium ion automotive battery manufacturing plant in Livonia, Michigan, on Sept. 13, 2010.

Surprise Exit

Considering the number of battery makers and still-low demand for electric cars, “attrition was pretty much a given,” Kim said. The surprise was that A123, with government support and fine minds behind it, “would be out of the game so quickly.”

In selling itself to Johnson Controls, A123 would end up in the hands of a more-proven industrial company that may use its electric-car technology in so-called start-stop batteries for hybrid and traditional vehicles. The sale to Johnson Controls keeps the U.S.’s investment in battery technology, and a local manufacturing base for it, at home rather than potentially losing it to China.

“In an emerging industry, it’s very common to see some firms consolidate with others as the industry grows and matures,” Dan Leistikow, an Energy Department spokesman, wrote in an Oct. 16 blog post on the agency’s website. Johnson Controls’ potential purchase “means that A123’s manufacturing facilities and technology will continue to be a vital part of America’s advanced battery industry.”

MIT Roots

A123 was founded in 2001 by then-26-year-old entrepreneur Ric Fulop and scientist Yet-Ming Chiang at MIT. The company, funded initially by a $100,000 grant from the Energy Department, owes its name to the Hamaker force constant, used to calculate the attractive and repulsive forces between particles at nano dimensions.

In its early days, A123 made batteries for power tools with companies such as Stanley Black & Decker Inc. (SWK), the world’s largest maker of cordless tools. The company expanded its product portfolio for manufacturing of hybrid and plug-in batteries for vehicles after investments from companies including General Electric Co. (GE) and Procter & Gamble Co. (PG)

In January 2007, General Motors Corp., as the Detroit-based automaker was known before its own bankruptcy, said that A123 would supply batteries for a Saturn Vue Green Line plug-in hybrid. In August 2007, GM said it would co-develop cells with A123 for the Chevrolet Volt.

GM Deals

Both of those deals eventually soured. GM pitted the battery cells that it co-developed with A123 against those of South Korea’s LG Chem Ltd. (051910) In January 2009, GM selected Seoul-based LG Chem to make the packs. The Saturn brand was eliminated as part of the automaker’s bankruptcy later that year.

A123 applied for $1.84 billion in federal loans in January 2009 to build the first large-scale U.S. plants to supply rechargeable hybrids and electric cars. The company said it planned to eventually spend $2.3 billion on U.S. factories that would employ 14,000 people. In its Oct. 16 filing, it listed 1,763 employees at 10 facilities in the U.S., China and Germany.

Seven months after A123 applied for loans, President Obama announced that the company would be among the recipients of $2.4 billion in federal grants to encourage the development of hybrid and electric vehicles, getting $249.1 million of those funds.

‘Made in America’

“This is about the birth of an entire new industry in America -- an industry that’s going to be central to the next generation of cars,” Obama said in a September 2010 phone call with A123 Chief Executive Officer David Vieau and then-Michigan Governor Jennifer Granholm. The call was played over loudspeakers during an event celebrating the opening of a plant in Livonia, Michigan.

“When folks lift up their hoods on the cars of the future, I want them to see engines and batteries that are stamped: Made in America,” Obama said, according to a transcript provided by the White House.

A123 officials have contributed to Democratic political candidates including Obama, according to the Center for Responsive Politics, a Washington group that tracks campaign finance.

Vieau gave $2,300 to Obama’s campaign less than a month before the 2008 election, and has contributed to other Democratic candidates and groups, including Senator John Kerry and Representative Edward Markey, both from Massachusetts, and Louisiana Senator Mary Landrieu, according to data from the center.

Obama’s Goal

Obama had set a goal of 1 million electric vehicles on U.S. roads by 2015. With fewer than 50,000 sold to date, that figure appears out of reach.

A123 ended up receiving $132 million of the Energy Department’s $249.1 million grant, using the funds toward building plants in Livonia and Romulus, Michigan. The company first sold stock to the public in September 2009, counting GM, Bayerische Motoren Werke AG (BMW), Chrysler Group LLC and Shanghai Automotive Industry Corp. among its customers.

While A123 boasted an impressive list of customers, making money was another matter. In its prospectus, the company said it had never been profitable, had a history of losses and “may be unable to achieve or sustain profitability.”

The risks didn’t keep investors away. A123 raised about $380 million for the company and its investors, receiving $13.50 a share in the initial public offering after raising its sale price at least twice. The shares soared 50 percent in the first day of trading, closing at $20.29.

Shares Climb

A123’s shares in October 2009 reached $25.77. The company’s market capitalization on a quarterly basis peaked at $2.3 billion, according to data compiled by Bloomberg.

In January 2010, A123 said it signed a multi-year supply agreement with Fisker for its Karma plug-in hybrid electric luxury car. In announcing the deal, A123 said that the Karma would be introduced later that year as “one of the cleanest, most fuel-efficient cars in the world.”

Two high-profile Karma recalls that were tied to issues with A123’s batteries resulted in the company’s undoing.

Fisker, a closely held startup carmaker led by auto designer Henrik Fisker, used a $529 million low-interest federal loan to buy a factory in Wilmington, Delaware, where it planned to build its second model. The Karma began production in March 2011 at a plant in Uusikaupunki, Finland, and the company said that it aimed for at least 7,000 deliveries in the first year.

Fisker’s Karma

By December 2011, the company had sent only 225 Karmas to dealers and had 1,200 units “in the pipeline,” Henrik Fisker said then in an interview. The company began facing scrutiny following the failure of solar-panel maker Solyndra LLC, a recipient of a U.S. Energy Department loan guarantee.

Already ailing because the market for electric cars was developing more slowly than the company had projected, A123 said two days before Christmas in 2011 that it found a flaw in the batteries it supplied to Fisker.

Hose clamps that are part of the internal cooling system of the packs supplied for the Karma were misaligned and caused coolant to leak, which could lead to an electrical short circuit, Vieau wrote in a memo on the company’s investor-relations website. Six days later, Fisker said it was recalling all 239 Karma cars that it had sold in the U.S. because of the defect.

Battery Troubles

Fisker halted work on the Delaware factory in February after the Energy Department blocked access to the loan that was awarded for redeveloping the site. Henrik Fisker shifted to executive chairman later that month and hired industry veteran Tom LaSorda as CEO.

A123 announced more trouble with the batteries it was supplying to Fisker and other customers in March, saying that it would replace defective packs that caused the Karma to shut down during a test of the car by Consumer Reports magazine.

“Brilliant scientists can develop the chemistry and the engineering behind these cells, but manufacturing them is a completely different thing,” AutoPacific’s Kim said. “That requires a completely different set of expertise. Just because there were some very brilliant minds that developed the cells, that didn’t in any way guarantee that they would be manufactured to the proper standard, and obviously they weren’t.”

Needing Money

The cost of replacing the battery systems would require A123 to “adjust our fundraising strategy,” Vieau said on a March 26 conference call. The company said May 15 that it hired an adviser to evaluate strategic alternatives, and two weeks later said it expected to incur “significant net losses and negative operating cash flows over the next several quarters.”

On June 20, the Securities and Exchange Commission wrote to A123’s CEO Vieau to ask that the company revise an S-3 registration statement related to its sale of 49.6 million shares of common stock. The regulator asked A123 to highlight “substantial doubt” as to its ability to continue as a going concern given its cash position, which it did.

A123 said Aug. 8 that it signed a non-binding agreement with Wanxiang Group Corp. in which China’s largest auto-components maker would invest as much as $450 million in exchange for a stake of about 80 percent. The maximum size of the investment increased to as much as $465 million on Aug. 16, when A123 said a “definitive” agreement was reached.

Republican Opposition

The deal with Hangzhou, China-based Wanxiang was opposed by Republicans including Iowa Senator Charles Grassley, South Dakota Senator John Thune and Florida Representative Cliff Stearns.

“We need to be sure that when the federal government invests close to a quarter of a billion dollars in grants to a company, that the technology developed as a result of this taxpayer support doesn’t end up in China,” Grassley said in an Oct. 11 statement on his website.

A123 abandoned that predicament by deciding not to move forward with the Wanxiang agreement, citing “unanticipated and significant challenges to its completion,” in an Oct. 16 statement.

Wanxiang’s interest in A123 “has not changed,” Ni Pin, president of the company’s U.S. unit, said in an e-mail. A123’s deal with Johnson Controls is subject to other potential offers in a bankruptcy auction.

Regulators’ Role

“A123 is concerned about some difficulties” closing the deal, Ni said when asked whether U.S. regulators were unwilling to approve the sale of a stake to Wanxiang. “Obviously it is not from them or us.”

A123 said it will instead sell its automotive business assets to Johnson Controls, the world’s largest maker of car batteries, in a deal valued at $125 million that must be approved by a bankruptcy judge.

“Despite A123’s recent quality issues, its lithium-ion phosphate chemistry continues to be viewed by the auto industry as one of the strongest around,” Rod Lache, a New York-based analyst at Deutsche Bank, wrote yesterday in a research note. Ownership by Johnson Controls “should likely allay customers’ concerns regarding capitalization and manufacturing quality.”

Johnson Control’s interest in A123’s technology may be less about powering electric vehicles than it is the next generation of start-stop batteries, which automakers are using to squeeze more efficiency out of internal combustion engines, said David Leiker, an analyst at Robert W. Baird & Co. in Milwaukee.

Start-Stop

Johnson Controls, which makes about a third of the world’s automotive batteries, also makes advanced lead-acid batteries for start-stop systems, a technology that lets conventional autos improve mileage and reduce emissions. The batteries allow engines to turn off when at idle without cutting power to air conditioning and other systems, improving mileage by as much as 5 percent.

Johnson Controls and Saft Groupe SA (SAFT), a French battery maker, ended a five-year-old joint venture last year because the agreement limited Johnson Control’s potential markets. The next generation of start-stop batteries will use prismatic lithium-ion technology, Leiker said by telephone.

“This is technology that’s viable,” he said. “It strengthens JCI’s technology portfolio in terms of chemistries and packaging and has the potential to drive the next generation of start-stop batteries.”

To contact the reporter on this story: Craig Trudell in Southfield, Michigan at ctrudell1@bloomberg.net

To contact the editor responsible for this story: Jamie Butters at jbutters@bloomberg.net

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