Applied Digital Corporation (NASDAQ:APLD) Q3 2024 Earnings Call Transcript

Applied Digital Corporation (NASDAQ:APLD) Q3 2024 Earnings Call Transcript April 11, 2024

Applied Digital Corporation misses on earnings expectations. Reported EPS is $-0.52 EPS, expectations were $-0.12. FDS isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good afternoon, and welcome to Applied Digital’s Fiscal Third Quarter 2024 Conference Call. My name is Doug, and I will be your operator today. Before this call, Applied Digital issued its financial result for the fiscal third quarter ended February 29, 2024, in a press release, a copy of which will be furnished in a report on a Form 8-K filed with the SEC and will be available in the Investor Relations section of the company’s website. Joining us on today’s call are Applied Digital’s Chairman and CEO, Wes Cummins; and CFO, David Rench. Following their remarks, we will open the call for questions. Before we begin, Alex Kovtun from Gateway Group will make a brief introductory statement. Mr. Kovtun, please proceed.

Alex Kovtun: Great. Thank you, operator. Good morning, everyone and welcome to Applied Digital’s fiscal third quarter 2024 conference call. Before management begins formal remarks, we would like to remind everyone that some statements we’re making today may be considered forward-looking statements under securities laws and involve a number of risks and uncertainties. As a result, we caution you that, there are number of factors, many of which are beyond our control, which could cause actual results and events to differ materially from those described in the forward-looking statements. For more detailed risks, uncertainties, and assumptions relating to our forward-looking statements, please see the disclosures in our earnings release and public filings made with the Securities and Exchange Commission.

We disclaim any obligation or any undertaking to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made, except as required by law. We will also discuss non-GAAP financial metrics and encourage you to read our disclosures and the reconciliation tables, the applicable GAAP measures in our earnings release carefully as you consider these metrics. We refer you to our filings with the Securities and Exchange Commission for detailed disclosures and descriptions of our business, as well as uncertainties and other variable circumstances, including but not limited to risks and uncertainties identified under the caption Risk Factors in our annual report on form 10-K and our quarterly report on Form 10-Q.

You may get Applied Digital’s Securities and Exchange Commission filings for free by visiting the SEC website at www.sec.gov. I would also like to remind everyone that this call is being recorded and will be made available for replay via a link available in the Investor Relations section of Applied Digital website. Now, I will turn the call over to Applied Digital’s Chairman and CEO, Wes Cummins. Wes?

Wes Cummins: Thanks Alex, and good afternoon, everyone. Thank you for joining our fiscal third quarter 2024 conference call. I want to start by thanking our employees for their ongoing hard work and service in supporting our mission of providing purpose-built infrastructure to the rapidly growing high performance computing industry. Before turning over the call over to our CFO, David Rench for a detailed review of our financial results, I’d like to share some recent developments across our business. During the quarter, we encountered several challenges that impacted our financial performance due to facility power outages in our data center hosting business. Despite these short-term setbacks, the company has made significant progress with our key growth initiatives in the development of our cloud services business and the establishment of our special purpose built hundred megawatt HPC data center in Ellendale.

Our achievements include welcoming our newest cloud service customer together AI and the strategic decision to divest our Garden City facility. We are also pleased to announce that we have entered into exclusivity and executed an LOI with a US-based hyperscaler for 400 megawatts of capacity at our Ellendale campus, inclusive of our current a hundred megawatt facility and two forthcoming buildings. We’re in discussions for project level financing for this investment grade tenant, and we hope to have construction financing in place coinciding with the site signed lease. We also significantly strengthened our balance sheet after the quarter closed with $160 million of announced asset sales and financing transactions. Now, I will provide an update on each of our business units.

Let’s begin by discussing our data center hosting business. Our 100 megawatt Jamestown facility has consistently met expectations operating at full capacity with uninterrupted uptime throughout the quarter. This achievement marks the sixth consecutive quarter of full capacity operation for the Jamestown facility. While we are pleased with Jamestown’s performance, we encountered challenges at our other facilities. As previously disclosed our 180 megawatt Ellendale facility in North Dakota experienced a power outage starting in January. In response to these challenges, our utility provider installed additional equipment to enable us to selectively power down the effective portions of our site. Upon re-energization, we have determined that the failures were due to transformers not meeting industry standards.

We have now successfully procured replacement transformers and related components from North American industry leading manufacturers. As of today, the Ellendale facility has been reenergized to approximately 14% of its full capacity or 25 megawatts. Additionally, we anticipate that as the new transformers are received and installed, the Ellendale facility will be operating at 65% to 75% of full capacity by the end of May, 2024. The company is also pursuing remedies to recoup lost revenues and additional costs incurred to identify and rectify the outages. Furthermore, we made the strategic decision to sell Garden City as it was not compatible with our HPC growth strategy. This divestment enables us to redirect financial and operational resources towards our strategic sites in North Dakota, bolstering our growth initiatives in HPC and cloud service applications.

The decision to sell this facility underscores our commitment to optimizing our asset portfolio while focusing on our core growth areas. As a result of this sale, we will maintain 280 megawatts of data center hosting capacity across our two fully contracted locations in North Dakota. This positions us to be insulated from volatility in the crypto markets leading up to the halving event. Let’s move on to our cloud services business, which provides high performance computing power for AI applications. Despite a lack of significant sequential revenue growth due to delays in clusters entering revenue generation, this segment continues to experience rapid growth, as we advance in fulfilling our existing contracts and exploring new opportunities in our pipeline.

We’ve recently seen positive developments including the enrollment of clients like Together AI and we have exited this quarter with positive momentum. The newly-deployed clusters were turned over to customers late in the quarter, which will provide a significant positive inflection to revenue and EBITDA in our fiscal fourth quarter. Lastly, let me provide an update on our purpose-built HPC data centers. We currently have 400 megawatt of capacity in development across North Dakota, not including the 9 megawatt of capacity we have at our HPC facility in Jamestown to support cloud service customers. During the quarter, we continued to make significant strides in the construction of our 100 megawatt high performance computing facility in Ellendale, North Dakota.

This state-of-the-art facility will feature cost-effective, highly-efficient liquid cooled infrastructure specifically designed for the most demanding HPC applications. Construction is proceeding as expected and we are proud of the progress to date. We encourage you to visit our social media channels for some recent images of the facility. As previously mentioned, we have entered into exclusivity and executed a letter of intent with the US-based hyperscaler for a 400 megawatt capacity lease and are progressing with project level financing tailored for this investment grade tenant. In summary, we are encouraged by the positive trends we are witnessing across our business and remain confident to our growth trajectory. We are excited about the numerous potential catalyst on the horizon and will continue to allocate our capital strategically to achieve the highest risk-adjusted returns and maximize shareholder value.

With that, I will now turn the call over to our CFO, David Rench to walk you through our financials and provide an update on guidance. David?

David Rench: Thanks, Wes, and good afternoon, everyone. Let me begin by addressing the complexity of this quarter’s financial reporting. Although we have reported an adjusted EBITDA loss of approximately $2.3 million, several one-time items significantly impacted our financial performance and comparability to prior quarters. Notably, we missed out on a substantial revenue opportunities in our cloud service business due to the difference of timing between hardware delivery and final configuration and customer access. We incurred one time professional service expenses, primarily related to our capital raising initiatives, financial analysis for data center financing and strategic transactions. Additionally, unexpected expenses arose from addressing power outages at our Ellendale data center hosting facility, which alone had an estimated $4.5 million impact on operating loss during the quarter.

We also incurred a $21.7 million loss on held-for-sale classification related to the Garden City transaction and $4.2 million of accelerated depreciation and amortization related to the disposal of damaged equipment of the Ellendale facility, which further impacted our financials. We are pursuing all available remedies to recoup lost revenues and the additional costs incurred to identify and rectify these outages. With these items in mind, let’s move to our results for the quarter. Revenues for the fiscal third quarter of 2024 were $43.3 million compared to $14.1 million for the fiscal third quarter of 2023. The increase was driven primarily by increased capacity across data center hosting facilities and the contribution of revenue from the cloud services contracts.

Our data center hosting segment generated $37.7 million in revenue, while our cloud services segment generated $5.6 million of revenue. Cost of revenues for the fiscal third quarter of 2024 was $47.1 million compared to $10.5 million for the fiscal third quarter of 2023. The increase in cost of revenues was attributable to higher energy costs due to higher number of megawatts used to generate hosting revenues, as well as increases in depreciation and amortization expense and personnel expenses driven by the growth of the business as more facilities were energized. Selling general and administrative expenses for the fiscal third quarter of 2024 were $30.4 million compared to $10.5 million in the prior year comparable period. The increase was primarily due to a startup cost due to startup costs as we ramped the cloud services business, including increases in depreciation, amortization, and lease costs on assets not yet supporting revenue as well as personnel costs to support the overall growth of the business.

Net loss for the fiscal third quarter of 2024 was $62.8 million or $0.52 per basic and diluted share based on a weighted average share count during the quarter of approximately $121.4 million. This compares to a net loss of $7 million or $0.07 per basic and diluted share in the fiscal third quarter of 2023 based on a weighted average share count during the quarter of approximately $94.1 million. Notably, our cloud services business reported a 21.6% operating loss this quarter inclusive of $16.5 million in depreciation and amortization expenses alone. We expect these losses to decrease as we deploy more clusters over the next six months. Adjusted net loss, a non-GAAP measure for the fiscal third quarter of 2024 was $28.9 million or adjusted net loss per basic and diluted share of $0.24 based on a weighted average share count during the quarter of approximately $121.4 million.

This compares to adjusted net loss of $1.4 million or $0.01 per basic and diluted share for the fiscal third quarter of 2023 based on a weighted average share count of approximately $94.1 million during the quarter. Adjusted EBITDA a non-GAAP measure for the fiscal third quarter of 2024 was a loss of $2.3 million compared to adjusted EBITDA for the fiscal third quarter of 2023 of $0.9 million. Moving to our balance sheet, we ended the fiscal third quarter with $41 million in cash, cash equivalence and restricted cash, and $61.8 million in debt. We continue to work on improving our cash position, taking into account the sale of our Garden City location, which includes maximum cash consideration, approximately $87.3 million. While there are still ongoing elements in the sale of the Garden City assets, including a $25 million holdback and a $9 million in contingent liabilities relating to final power approval in Texas, we have observed an improvement in our balance sheet since the close of the quarter, including a $50 million convertible debenture that we recently announced.

Despite the challenges, we are encouraged in the past quarter, we remain confident in the promising future of Applied Digital. Now, I’ll turn the call over to Wes for closing remarks.

Wes Cummins: Thank you, David. I’d like to take a few minutes to discuss our capital formation strategy to fund the growth we expect in our business. Our two highest growth segments are capital intensive businesses. To date, we have primarily been funding these initiatives from corporate level financings. We’re planning for this to change in the near future, specifically to cloud services we have engaged, been engaged in a process since late last year to secure a large debt facility directly at our cloud services subsidiary to fund GPU purchases. We have received indications from multiple parties and are proceeding forward with a goal to close a debt facility by the end of the current fiscal quarter. The debt facility has some attractive attributes relative to the leases we currently use to fund the deployments.

First, it would change the amortization schedule for the GPUs from the current two years to approximately five years, which would align with the expected useful life. This would’ve a positive effect on our income statement in the near term, as well as aligning the assets and liabilities on our balance sheet to better reflect reality. A significant portion of our lease financing is in current liabilities, while the entire asset of the GPUs is in long-term assets. This creates a growing negative working capital balance as we deploy more GPUs. If we are not successful in securing the debt facility, we will continue to have access to lease financing and have recently seen more attractive financing structures coming to the market. Moving to our HPC data center financing.

We have been funding the initial building cost of our Ellendale facility with corporate level funds. We have been in the process of securing project level debt for this facility since late last year. We have multiple interested parties. The recent positive results from a feasibility study have pushed this process forward. We expect to have this financing in place with the execution of the lease on the current 100-megawatt building. Once these asset-level financing vehicles are in place, it will leave the company in a positive free cash flow position due to the strategic financing in the different business segments. In summary, we faced significant challenges this quarter, largely due to external factors, but we are fully dedicated to delivering strong long term shareholder value.

The robust demand for our products and services coupled with our differentiated asset base and the attractive valuation of our peers strengthens our conviction. We welcome your questions at this time. Operator?

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Q&A Session

Operator: Thank you. [Operator Instructions] Our first question comes from the line of Lucas Pipes with B. Riley.

Lucas Pipes: Thank you very much, operator. Good afternoon, everyone. Wes, you described Ellendale and Jamestown as strategic. I wanted to ask, if it’s fair to conclude from that comment that, those assets would not be sold specifically just the BTC piece of it? Thank you very much.

Wes Cummins: Sure. Thanks, Lucas. Those assets are strategic to us and that they have really good fiber connectivity at those sites versus what we had in Texas and we have no plans of selling those in the immediate future.

Lucas Pipes: That’s helpful. Thank you. On Ellendale, you mentioned you have more than 600 megawatts of future capacity. First, is this 600 megawatt inclusive of the current B2C business or incremental? Then, how is this power capacity secured? Obviously, there’s a lot of interest for power assets out there with everything that you’ve been talking about for a very long time. Wondered how investors should think about that?

Wes Cummins: Yes. It’s inclusive of the 180 megawatt on the BTC. Right now we’ve secured 535 megawatts at that site, but we believe it goes to 605 megawatt.

Lucas Pipes: What’s the mechanism is through down payments or could you expand on that a bit?

Wes Cummins: I’m sorry, the mechanisms for?

Lucas Pipes: The mechanisms through which this power is secured at?

Wes Cummins: It’s through signed ESAs.

Lucas Pipes: Very helpful. Thank you. And then, I’ll try to squeeze one more in, just in terms of the debt facility that you had mentioned for the GPUs, what potential size could we think about for that?

Wes Cummins: Yes. I’m hesitant to say the size, but it’s somewhere in the multi-hundred million, maybe $500 million to roughly $1 billion range.

Lucas Pipes: Wes, really appreciate all the color and to you and the team best of luck.

Operator: Our next question comes from the line of George Sutton with Craig-Hallum.

George Sutton: Thank you. Wes, obviously the big news on this call is the 400 megawatt hyperscaler contract. Can we just talk about that relative to the hundred megawatt that you had previously announced? Where does that original hundred megawatts sit? Would this be in addition to or a completely new move on your part with respect to what you have out there for sale?

Wes Cummins: Yeah, so the 400 megawatts is inclusive of the hundred. So it will take that, the previous customer didn’t go forward. As I’ve mentioned on our call, last call in January, we’ve — we have had a significant amount of interest at that site. And I think, I feel like we’re moving forward with the best party for us to move forward with, which is effectively for the entire site.

George Sutton: Okay, great. So the original customer in talking to some of the infrastructure investors that we talked to was suggestive of a little bit more challenging to finance a 10 year contract. This hyperscaler customer definitionally would be a very high credit or the customer, and therefore I assume the ability to get that finance would be substantially easier. Is that a reasonable scenario?

Wes Cummins: Yeah. That’s the correct way to think about that.

George Sutton: So when you announced the 100 megawatt deal, you gave some a sense of a 10 year contract term of about $2.2 billion. Would this be suggestive of an $8 billion plus 10 year deal? Is that kind of how I’m to read that?

Wes Cummins: I don’t want to get into too many of the details, because there’s a ways to go here. But this, what we’re looking at is more like 15 year commitments. But it sticks close to what we’ve talked about in the past. What the economics per megawatt we expect.

George Sutton: Okay. And then finally, on the GPU side, could you just give us a quick update on sort of where your orders sit, where the supply of GPUs, how well that’s coming in, including inclusive and pinna band, and just any sense on an example of sort of once you get a cluster built, how long it takes to get to revenue recognition. So just so we’re clear on that.

Wes Cummins: Yeah, sure. So, couple of things on that. We feel good on the supply. We’re seeing shipments and including everything. One of the blocks we hit a little bit in the quarter is we’ve been hiring more people because there is a significant amount of work to put these together to commission them, and turn them over to customers. And we have a limited team. And so we’ve been adding to that team. I think, it’s tens of thousands of cables that need to be connected. The cabling takes a long time and then the commissioning. But there’s a lot of work involved. So hopefully we’ll shorten that with experience and with more bodies in the future. But the, right now, you should be thinking about eight weeks from when we receive all components on site to the clusters being turned over to customers.

George Sutton: All right. Very good. Thank you for answering.

Operator: Our next question comes from the line of Rob Brown with Lake Street.

Rob Brown: Good afternoon. On the large potential new contract, could you give us a sense of the steps that go into that? Is it contingent on financing or are there details to negotiating contracts and then you go out and get financing, just a sense of the steps and timing on how that plays out?

Wes Cummins : Sure. I’m not worried about financing on this one. There’s just a process that the steps you go through from where we are now, some diligence, a lot of things that we have to provide and there is a lot of work to be done from a legal contracting perspective. I would expect this to be kind of a 60 to 90 day process from when we started.

Rob Brown: Okay, good. I guess on the transformer that you’re trying to procure and get put in place, you have some timing on May, but what’s the timeline for the rest of the transformers in getting that site up to full speed?