Pure Cycle Corporation (NASDAQ:PCYO) Q1 2024 Earnings Call Transcript

Pure Cycle Corporation (NASDAQ:PCYO) Q1 2024 Earnings Call Transcript January 16, 2024

Pure Cycle Corporation isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Greetings. Welcome to the Pure Cycle Corporation Q1 2024 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note, this conference is being recorded. I will now turn the conference over to your host, Mark Harding, President and CEO. You may begin.

Mark Harding: Thank you, Holly, and welcome, and good morning. Balmy morning here in Denver. Happy to give you an overview of our Q1 2024 earnings call. We do have a slide deck for this call. It’s on our website. If you go there, you can click on it on the front page or go to the presentations page, and you can see it there. So, if you want to follow along with the deck, I will try and note the transitions as I walk through the presentation. With me today is our CFO, Marc Spezialy, and our Controller, Cyrena Finnegan. So, let’s get started. First slide — second slide actually, is our forward-looking statements that most of you are familiar with. Statements that are not historical facts contained or incorporated by reference in this presentation are forward-looking statements.

And I think you all understand. We’ll get the lawyers out of the room and get on to the presentation. So, we’ll talk a little bit about kind of the business model and our strategies, take a look at our scorecard for Q1, really drill down into some of the specifics about our assets and opportunities and the continuing strength that we have within our assets, and then a little bit on the updates. Over to Slide 4. Really want to — we continue to benefit from a very strong and experienced leadership team and Board of Directors to maximize our highly appreciated assets through our complimentary business segments. And each of these business segments really do relate to each other. And by that, what I mean is, as we make an investment in one of the business segments, we benefit each of the other business segments.

So, we’re very proud of having these vertical integration within these business segments and the opportunities that that present for us. Here’s our key management team, and we have a tremendous amount of experience within the firm, not only within the various disciplines, but across the leadership board. So, we really do benefit from very strong and diversified and tenured management team. Three principal business segments, as most of you know, we have our water and wastewater segment, we have our land development segment, and our single-family rental segment. We talk a lot about that complimentary nature and each of them do relate to each other. We wouldn’t be doing our land development if we weren’t in the water utility side. We wouldn’t be doing the single-family rentals if we weren’t land development segment of that.

And so, by us improving our water system, that improves our land development. By us improving our horizontal development of our master plan communities that provides us opportunities for our single-family rentals and continuing to appreciate the curb appeal for each of the homes that we or our builder partners are developing in our communities. Take a look at about our asset portfolios, and this is kind of divided up and segregated into our each of our segments and they continue to grow in value, not only in the direct investments, but each of these assets continue to appreciate in their fair market value through each of the segments. Our water/wastewater segment holds more than $2 billion in top-line revenue. We have the ability to provide 60,000 single family connections with our water portfolio.

We have an existing system that’s built that can deliver around 2,500 connections, and I think we have about 1,300 total connections in there. So, we have a little bit of pedal left in developing more connections for what we’re doing on water and wastewater side. In our land development segment, the Sky Ranch project holds more than $500 million in value. We’ll talk a little bit more about that in the presentation, but we have very low basis in each of these segments. We have about a $4.5 million basis in the land development side, mostly because we bought it right, but we continue to improve the value of that, and you see that through the direct investments on the balance sheet. And then, last but not least is our single-family rental segment.

Each home that we complete and deliver holds approximately 30% equity value. And that’s because we roll forward the appreciation of the value of the land, the lot itself, as well as the water connections — water and wastewater connections there. So, what you see is, we have a recorded book value of about $5.4 million, but we have about $2 million of equity in that segment and it really comes from each unit that we do, that we deliver on that. And so, we get fair market value rents for those and that covers not only the debt service on that, but provides us margins on it. So that’s another summary of the asset values. We’ll take a look at our scorecard, see how we did in the first quarter. We had an excellent first quarter. Take a look at Slide 9, delivered very strong revenues as well as impressive gross margins at little over 60% on that, about 62%.

But Q1 revenues are $5.3 million — almost $5.4 million with a very high margin on those at about $3.3 million. So, if you take a look at that, that’s a strong quarter for us even historically when you look at the last four years of our performance on that. Taking a look at Slide 10, the net income on that, little over $2 million and about $0.09 per share — earnings per share. So, we carry through to our net income and our combined segments are delivering over 38% profit margin. So, very healthy results from our assets and they continue to demonstrate their strong equity and strong appreciation value for our shareholders. When you take a look and break that out by each individual segment. So, if you take a look and drill down on that, really looking at where the revenues come from, little bit weighted in the water/wastewater side.

I think that strength in the oil and gas deliveries will buoy that a little bit, but it’s almost split between our water segment and our land development segment. Our single-family rental segment still coming on early. We have about 14 units on that. But if you take a look at our gross margins in each of these segments, again, really demonstrates the value that we have and really the opportunity to turn those into margins for our shareholders. So, the growth — gross profits there are also illustrated on the graph there. And again, you start to see the single-family rentals getting in the game here, but they’re still pretty early. Moving over to Slide 12, if you take a look at kind of water deliveries and where that water — or where those water segment revenues are coming from, they come from really three principal areas.

Tap fees, which are that large capital fee that we get, and we had a few tap fees in there, that I wouldn’t say that it was an extraordinary quarter for tap fees, mostly because we’re closing out and finishing up the Phase 2a, the first phase of our second phase. So that sounds terrible. We got to find a better way to identify each of these phases. But you’ll see there is a healthy segment in there for oil and gas this quarter, and the outlook for that continues to look robust and strong. And then, we continue to grow our customer growth for our recurring customers. And so, you’re going to see that continue to slide into a meaningful component of the business, but we continue to deliver water and wastewater for our 1,300 — closer to 1,400 customer connections each month.

Moving on to Slide 13, that will kind of highlight the oil and gas operations on this. And so, we’ve got really what was a record quarter for oil and gas deliveries. If you take a look at that, we almost had $2 million in just a quarter for oil and gas deliveries. And really that outlook continues to look strong. The operators that are drilling in this field, they have a dedicated rig. That rig can drill maybe a little bit more than 20 wells per year, because they’re really at pad site development. So, a lot of these pads are going to hold up to 16 wells per pad. And they’ll drill those, they’ll move on, and then the fracs will follow that. But we’re still averaging a bit more than $250,000 per well, not necessarily per pad, per well. So, these pad sites with large number of wells do consume quite a bit of water.

And the footprint for this is very large. So, they’re drilling in Adams and Arapahoe counties really right on top of our service area. To dig a little bit about our land development segment, so with Phase 2a nearly complete, so we illustrate this by a percent complete basis, and that kind of smooths out the revenues. The revenues don’t always match the timing of the cash flows. And as you heard me speak in the past, we try and get our cash flows from our builders, so that they’re able to help us with some of that very expensive horizontal costs. And at the same time, we don’t incur — we don’t burden them with a large inventory of that cost upfront. So, it’s more of a as close to a real time delivery of the revenues to the improvements as you can get within this business.

And so, what we see here is we’re closing out of Phase 2a, which is the first 200 and — call it 230 lots in there. We have a little bit of landscaping left and it’s a little bit difficult to do that when it’s below zero, but we’ll catch up on that towards the spring and the summer months and punch out that one. We’ve got most of the wet utilities done on Phase 2b, and we should be starting to deliver lots in this quarter, Q2, and then through the rest of the year. So, we’ll deliver Phase — all of the Phase 2b lots in this fiscal year. And then, Phase 2c, we’ve actually started, so that we’re going to overlap that with Phase 2b, mostly because of the continued strength of our particular product in our segment, which is an entry-level product here in the Denver market.

And so, you’re going to continue to see us overlap some of those development phases, and each of these phases continue to get their progress based on a total delivery of the single family lots. And then, we still have Phase 2d, which is a component of this second phase of the 860 lots down there. And we’re looking to start that sometime next year as well, where we can continue to make sure that we’re delivering all of those lots concurrently with the demand. We’re going to move into the single-family segment here. And I’m turn the mic over to Marc Spezialy and have him give you kind of an update and an overview of our strategy with the single-family rentals. So Marc, I’ll let you take it.

Marc Spezialy: Thank you, Mark, and good morning, everyone. We continue to see high demand in our single-family rental units, and we’re encouraged by the results that we’ve seen in the first quarter. As you can see from the chart, we started as a proof of concept just a few quarters back, and in Q1 of 2024, we are starting to see the compounding effects on revenue as we scale to a larger number of completed units. We’d also like to highlight that the single-family rental unit segment complements our other segments by utilizing our portfolio of assets. Each completed unit adds an average of $150,000 in equity by capitalizing on our well-priced lots and our water availability in this competitive housing market. This table takes what we’ve built to date in our Phase 1 proof of concept as well as what we completed in Phase 2a, and for checks out where we see this segment going as we continue to develop in phase — develop the rest of Phase 2.

Not only are we able to control our building costs because of our position in land development and water, but we’re able to do also able to control all of our operating costs as of — by maintaining these units in in-house, we’re able to keep the operating cost down and really utilize this portfolio of assets. The next chart is really a graphical form of the previous table. It charts out where we are projecting the reoccurring revenue from our rental income could be as we continue to build out Phase 2. We also are projecting our increase in asset value with the equity that we add in each of the units that we bring online. And with that, I’d like to turn the call back over to Mark Harding to discuss the portfolio of assets further.

Mark Harding: Great. Thanks. And so, as Marc highlighted, one of the key things is, and it really is indicative of all of our assets is the value of our assets, the difference between what we carry the assets for on the balance sheet together with the fair market value of those assets, and that’s why we like each of these segments, whether that segment is the water utility segment, whether that’s our land development segment or whether that’s our single-family rental segments. What that does allow us is it allows us to punch a little bit above our weight on income relative to what the book value of the assets are. And so that’s a story that we’d like to kind of continue to emphasize for the market, so that you all get an understanding of why it is that we’re doing as well as we’re doing with each these assets.

It isn’t as though the operating results are truly extraordinary for a one-time basis, they’re really indicative of the appreciation of the asset value. And so, how I want to highlight that a little bit is talk about that in the stored value that we have, not only in the asset themselves, but also the capacity for those assets to continue to generate revenue. And so, when you look at that, you look at the water and the wastewater side, there’s tremendous value, as you all know, in the water rights portfolio that we have. We have about 1,300 — 1,360 units of a 60,000 connection capacity. You do the math on that, that’s about 2% of the capacity that the portfolio can generate. So, we have a tremendous stored value in that. If take a look at the land of elements, Sky Ranch is really starting to hit its stride, but still having delivered up through just that Phase 2a, we’re really only about 14% of the total capacity of Sky Ranch being developed.

And then, our single-family rentals, while we continue to deliver and expand that portfolio, we’re still only about 7% towards our goal and our goal being closer to 200 planned units in the community. If I take a look at how we try and graphically illustrate that though, water segment has two revenue sources. We have the recurring revenue, which is really just water deliveries, and we’re delivering them on a monthly basis to our residential customers as well as on monthly basis to our oil and gas customers. And we did have a great record quarter to our oil and gas customers, but still we have plenty of pedal left on that. If you take a look at annualizing that 15% of our capacity over the year, really that’s still only about 60% of our transmission capacity.

So, we continue to look forward to meeting the demands of our residential customers as they’ll grow — as that grows month over month by delivery of new homes at Sky Ranch and at Wild Point and commercial customers as well, but also to continuing to serve the oil and gas community and their portfolio needs. Taking a look at the capital fees, the water tap fees, this kind of illustrates where our tap fees are today, those continue to grow. That’s really an illustration of the scarcity value of water and increasing cost as we have to reach farther and farther out to deliver new water supplies. But really, we’re only about 2% of the capacity of our portfolio at 1,336. The additional capacity that we have with that transmission capacity can serve up to 2,500 connections, so we have the ability to get some additional connections without further investment.

But we continue to invest in that delivery segment, so that we can keep ahead of the demands for our oil and gas customers and make sure that we can meet their needs. This is a bit of an illustration on the land development side. And if you take a look at where our opportunities are for the full build out of Sky Ranch, that’s closer to $580 million. We have monetized a portion of that. We have approximately 725-ish units that are built, that’s about 14% of that capacity. Phase 2 will carry us through the next 650 lots and then we have still another 800 residential connections and then our commercial connections, and that’s still the most valuable component of the portfolio. And while we’re still a little bit early on the commercial side, we still continue to prepare and make sure that we have a good structure for delivery of value for those commercial lots.

Bids on the single-family rentals, if we are targeting our 200 units, what that does for us on annual rental revenues, so that’s a little over $6 million in rental revenues at that full figure at about $2,800 per connection per unit. And so you’ll continue to see us add value there and we really add book value, we add asset value, and then we also add a little — a lot of strength to our P&L, so that you’ll continue to see that investment. So, what are our key takeaways? As you’ve heard us talk from time to time, executing our strategic approach to growing the water utilities together with land development, single-family rentals maximizes the returns for us for years to come. And it also not only generates significant asset value, but significant recurring revenues at very high gross margin.

So, you take a look at really the strength of these assets and where we’re continuing to build on those, we continue to deliver significant and strong results. We continue to invest in each segment as they continue to deliver those returns, and we continue to pursue acquisitions, those are continuing. We still look for adding to the portfolio, whether that’s in the water rights areas and looking for us to add both infrastructure as well as new water rights to the portfolio in strategic areas where those complement our existing investments. And then finally on 26, we continue to invest in ourselves. We continue to be in the market purchasing shares with a disciplined strategy. We set those benchmarks to our traders. They’re in the market where it meets our requirements, and it’s a mystery to me as to how it trades, and it also is a mystery to me as how our traders trade those shares, but we give those — there are certain rules and conditions that we can repurchase shares for, but we continue to be in that market and really reinvest in ourselves.

So as — this will kind of close out the presentation with the list of our Board of Directors. We continue to benefit and rely on their wisdom, their experience, and their strength in guiding our principal business interests. So, the shout out to those folks who continue to be overworked and underpaid, and we are grateful for their service. So, with that, I’m going to turn it back over to Holly and see if you all have any questions that we can drill down on and give you a little bit more highlight.

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Q&A Session

Operator: Certainly. At this time, we will be conducting a question-and-answer session. [Operator Instructions] Your first question for today is coming from Bill Cunningham. Please announce your affiliation, then pose your question.

Bill Cunningham: Hi. This is Bill Cunningham. I’m a private investor. And my first question has to do with your fracking revenue, Mark, which was very good this quarter. I saw $2 million on that, which means that $250,000 per frac, as you showed us in your presentation means, eight wells last quarter. I remember that there is a 16-well site right near your office that you were planning on starting in the fall and in fact it started. So, I’m wondering about the other eight wells there and whether they are fracking through the winter or whether the weather is impacting that or whether you can give us any kind of general flavor or guidance on what the fracking water sales revenue might be for this quarter and possibly a bit into the future.

Mark Harding: Yeah, good question. I will tell you that those frac crews and the drill crews, by and large, are hardy, hardy guys, and women. They are out there 24/7 through the winter. And being out there 24/7 over the last three days, where it hasn’t gotten above zero here, is hazard pay to any measure. But, no, they do frac. Water tends to get a little stiff at those temperatures. And so, they do actually preheat that. So they heat it coming out of the reservoir before they put it into the line, then that line just is laying on the ground. So, it’s fully exposed. And it gets snowed on, and it’s a complicated venture for that. But they are flowing at quite a volume. They’re flowing as much as 4,000 gallons a minute. And so, when it’s flowing like that, it has a tendency to stay liquid, and then they want to make sure that they get that continuous operation.

And it’s part of that technology of the fracking, once you’re in the hole, you kind of have to keep through that hole. So, we are continuing to frac. As far as the Q2 cycle, I’m pretty optimistic that Q2 is going to look a lot like Q1 and Q3 and Q4. I hope we’re going to look like Q1. The thing about the oil and gas companies is they pay you to be at their beck and call, but they don’t always call. And so, I think that the stability of the regulations here in the Colorado market are lending themselves to continued investment by oil and gas industries, as well as the strength of the oil and gas market. While it isn’t as good as it was at $100 a barrel, I think these operators are very comfortable continuing to make their investments at the current rates.

And I wish I had an idea of what dollar number that would turn off or speed up, but they don’t share that information other than the fact that they’ve given us a projection that would continue to support similar results to Q1.

Bill Cunningham: Well, I would be thrilled with $1 million or $2 million of water sales to those companies. And I believe Civitas is your major customer or one of the major customers, and they have some pretty aggressive goals on their website. So, I’m also looking at that. So, this all looks good from my perspective.

Mark Harding: Yes, they are. And they’re not the only one, but they are the largest one. And they do have a number of wells drilled. They’ve actually got — once the pad that you referenced was right behind the office. But the other thing that we’re excited about is the next pad that they’re going to shift to happens to be our Sky Ranch pad. And so they’re going to be fracking an eight-well pad site on Sky Ranch. So, not only do we get a bunch of money from our frac revenues, but you’ll see our oil and gas royalty revenue tick up because those will get completed.

Bill Cunningham: Okay. Are they new wells or are they re-fracking of old wells?

Mark Harding: These are all new wells.

Bill Cunningham: Okay.

Mark Harding: All new wells.

Bill Cunningham: Okay. And then, I have a question on actually your development at Sky Ranch. I know you’ve got multiple phases going on right now, particularly 2b and 2c. I’m guessing that 2b must be you’re going full speed ahead with that. I saw that, it looks like Lennar has totally sold out. Your other builders are in various stages of almost sold out. So, I assume some of them are chomping at the bit to be able to start selling homes in 2b. And I’m just wondering physically what the status of 2b is right now?

Mark Harding: You’re right, and I often lament on the builders, because they’re sort of a light switch turning on and off their sales team when it doesn’t quite work that way in delivering lots. And so, when they asked us to take a 90-day pause there between 2a and 2b on the start of that, and now they’re saying, oh, could you please hurry up and deliver 2c, it kind of is that hurry-up-and-wait mode. But it is our model and I will describe it this way. Our model of being able to do this on an incremental basis where we’ve got the bulk of the backbone infrastructure constructed, right, a lot of that is carried on our balance sheet, as you know, through the reimbursable note receivable. And they are deep into chomping on getting to be there.

And because we have some of that background infrastructure already done, we’re likely to deliver maybe a couple dozen lots that are going to front streets that are already complete, so that they can start those this winter. Timing of that is really discretionary for them because the hardest thing for them to do is get those foundations poured. Concrete doesn’t do so well at these temperatures. But they do — they can be optimistic about that, and they can get those foundations in. It’s really just a day to get those things poured. They can blanket them. They can start those foundation. Once they get that done, they can continue to work in really all temperatures on the framing side. So that’s what they really want is they want us to deliver them.