Yahoo Finance Pure Cycle Corporation (NASDAQ:PCYO) Q2 2024 Earnings Call Transcript
Pure Cycle Corporation (NASDAQ:PCYO) Q2 2024 Earnings Call Transcript April 11, 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: Good morning, everyone, and welcome to the Pure Cycle Corporation’s Q2 2024 Earnings Call. At this time, all participants have been placed on a listen-only mode and the floor will be opened for questions after the presentation. [Operator Instructions] Please note, this conference is being recorded. I will now turn the conference over to your host, Mr. Mark Harding, President and CEO of Pure Cycle. Here you go.
Mark Harding: Thank you, Jenny. Good morning, everyone, and welcome to our six months ended February 29, 2024 earnings call. We do have a deck for this, if you can go to our website at purecyclewater.com and click on the Investor tab. And then, there'll be a link there that will direct you to the deck for this. I can walk through this, and I'll try and note the transition of the slides as we move through the presentation. Let me start out with our first slide, which will be our forward-looking statement, which indicates that I'm sure all of you are familiar with that statements that are not historical facts contained or incorporated by reference in this presentation are forward-looking statements. With that, what I want to do is spend a little bit of time talking a little bit about the various segments of the business, take a look at our performance through our first-six months of this year.
Talk a little bit about some of the investments that we've made into our assets and some of their trajectory together with their capacities and the opportunities to continue to monetize those assets and then, give you a little bit on important updates coming up with that. None of this is possible within the organization without having a great team to rely on, not only our management team, but all of our line operators that really, the brick-and-mortar and the block-and-tackle every day to make sure that we're putting up strong performances in each of our individual segments. We've got a tremendous Board of Directors, a very strong Board that continues to keep us accountable and really offer their years of wisdom and advice in that. So we benefit from a very strong team, both at the company level, as well as at the Board level.
And so we want to continue to recognize and acknowledge all those folks that make -- what we do happen. So, a little bit of information backgrounds on some of our leadership team, both in terms of the presentation as well as on the line. So you can get a lot of information about who it is that's shepherding these assets and steering the direction of the company. So the company operates in three different business segments, and these segments are vertically integrated with each business segment informing and really improving the value of each other segments. If you take a look at the fundamental premise of the company, we're a Water/Wastewater provider and we have a significant portfolio of very valuable assets in an area where water is a hard to come by commodity.
And so, we have been developing those assets over a very extended period of time. We've got more than 30 years of investments in these water assets. And they have had significant appreciation over that period of time. The portfolio logistics on it allow us to provide water and wastewater service to approximately 60,000 single family connections, and we're really just getting started with that. We have a little over 1,300 connections to date, and we'll talk a little bit more about that. But that Water segment helps us create value in the next business segment, which is our Land Development segment, where we develop land as a master planned community. And so we take a look at it as a large-scale development. And as we make these large investments in water and wastewater, we also make those investments in land development, providing single-family lots and multifamily, as well as commercial lots to national homebuilders and area land and businesses.
And then that third segment is, as we're developing lots, we retain some of those lots for ourselves. We keep the equity value of the lot together with the water service connections and really work with our homebuilder partners to build single-family homes on those lots that we keep in our own portfolio, and we rent those out to families and individuals for a single-family rental market business. So, each of those segments, as you can see, really complement each other segment and really provide value in the asset chain. Talk a little bit about the company's assets. We have about 120 million in assets. And one of the things that I think is most unique about this company is really the extremely low basis that we have in these assets. When you take a look at the fair market value compared to what the cost basis is, and it's because a lot of these are assets that the company has been very disciplined about acquiring.
Taking a look at our water and wastewater assets, our capital accounts in just the water rights portfolio is slightly less than $15 million. And when you take a look at the connection fees that can generate over $2.5 billion worth of revenue on that and then annual year-over-year revenues greater than $100 million. It really does give you an indication of the opportunity that the company has in just that one asset, taking a look at the land assets we were very fortuitous in acquiring our Sky Ranch property. We acquired it when not a lot of people wanted land assets back in the Great Recession in 2010, got a very low basis in that. We got less than a $5 million basis in the Land Development side and about $10 million in assets there. And as I'll highlight a little bit later in the presentation that asset can generate significant opportunities for the company in excess of $600 million as we continue to build that out.
And then our newest segment being Single Family Rentals, the opportunity there is, it's a very tax advantaged way of us adding recurring cash flows to the company and being able to retain some of that equity value in both the land and the water. And so, what we have is an opportunity where we can have homebuilders build on those properties, carry forward some of that equity. And then each home that we bring online carries with it as much as 30% equity value in the marketplace, and we're able to rent those out at fair market value. So, there's a great opportunity for us to monetize some of that vertical integration of each of those assets into the Single Family Rental. One of the other things we'd like to highlight is, kind of the company's stewardship of its capital resources.
We've got a very strong balance sheet, a high degree of liquidity in there. If you take a look at our cash position, together with our receivables from our governmental entity partner, where we're constructing that infrastructure. We've got over $50 million worth of liquidity between cash and cash and notes receivable and very modest debt. We use our debt to really take a look at the vertical cost of the single-family rentals, and that's very attractive because we can get mortgage-type financing on that -- company can't get a mortgage, but it's a product that we work very closely with our banking partners to be able to get that type of credit facility in there and be able to leverage some of that opportunities within the company. So that's one of the key things we like to highlight just because of the uniqueness of what it is that those assets bring to the company.
What I'd like to do is talk a little bit about our financial performance. So, we'll advance to Slide 9 and jump right into the Q2 results, a great quarter for us, about $8.5 million in revenue. As you can see quarter-over-quarter in the past three years, we're more in line with what we thought we were looking at in ramping up these operations in '21, '22. '23 had a little bit of a pause because of the interest rate increases that were so aggressive towards the end of 2022. And our homebuilder partners were looking at how they wanted to inventory and the velocity of the homes that they were looking for. And so we had about a 90 day gap in starting our Q -- second -- or the second sub phase of our second phase, hard to get that one fast my lips, but our Phase 2b had that 90-day pause and really what we've seen is a stabilization of that interest rate market.
Interest rates are kind of settling in. They're still high above where they were maybe two, three years ago, but on a normalized basis, they're really in-line with what normal expectations are for mortgage rates. So, I think the market is coming around to that and what we see in the single-family home business, not just here in Colorado and the Denver market, but all across the country is really a lack of inventory for sale. And a lot of that is attributable to mortgage locks on a lot of those folks that have a 3% mortgage that it really isn't all that attractive for them to switch that out for a higher mortgage rate. Our margins are continued to be terrific margins where we're exceeding 50% in all three of our business segments. We'll highlight that a little bit, but you can see our gross profit from that on Q2 is also continuing the results of the company.
Net income, a little over $2 million of net income and an earnings per share of about $0.09 a share. And so, what this does is it carries us through our typically slow period of time. We do have a little bit of seasonality within the company just because of the climate here in Denver and a lot of the activity that we're doing on the construction side with delivering lots, you'll see a significant amount of acceleration of that in Q3 and Q4. And that really times out just because of the timing of our year-end. We have an 8/31 year end. And so that puts our Q1/2 in our winter months as opposed to Q2/3 or our Q2 is the first Q of the calendar year. So it always trips up a bit on how we look at that. But really rolling into Q3, Q4. Those are going to be the summer months.
Those are going to be summer irrigation seasons, those are going to be the high productivity for our construction activities on delivering lots. Take a look that each of the individual business segments, as I mentioned, when you take a look at our revenue and our gross margins by each of those segments, again, very impressive results. 55% gross margins in our water utilities, very high margins in our land development. And then, we are starting to get some traction and some materiality into our single-family rentals. We've got 14 units that are fully leased and a lot of those are coming through on some of their first-time renewal, some of the units are second year renewals and our renters continue to be very enthusiastic about the product that we have and the service that we're giving them.
So we've got a high renewal rate on a lot of the turnover on those units. Let me drill down a little bit about where Water and Wastewater segment revenues come from. As those of you that are following the company, we also provide water -- commercial industrial water to the oil and gas industry. And that's a real high component of what it is that we're doing. And that's very advantageous for us because it allows us to be able to develop our water system with a current user in demand for that. And so they're able to provide the company additional capital to expand our system in advance of some of our residential demand. And I think the Q2, if you look at just that three months ending, that was pretty close to a record quarter delivery for oil and gas waters.
What we see is that trend continuing. The field that we have is the Southern Niobrara field here in Colorado. And it's about a 200 square mile area where we're delivering water to our operators that are in this field. We've got a couple of operators, one large operator Civitas, and then some other smaller operators that are drilling wells. And this is at the stage of field development. So they've derisked the field. It's a very oil-rich field. It's a very, very heavy oil, a lot of production that comes in out of these fields. So I think it's well liked amongst the operators. One of the segments on this that was a little bit light in Q2 is going to be the tap fees and that's a seasonality issue, as you can kind of see that as we trend through the years, we usually pick up a lot more of those tap fees in Q3, Q4, which is where our builders are pulling building permits and that's where they pay their tap fees, they pay their tap fees at the time of a building permit.
So you're going to see that increase in velocity as the rest of the year rolls through. And so a little bit of projection on our number of customers, and we continue to grow on our customer base, and those are our recurring customers. There's a little bit of statistics on the oil and gas side. They're becoming very efficient. And so each rig can drill a well in about five days. And so they're drilling as many as 12 to 16 wells per pad site. And so I think we've got 1.5 rigs that are dedicated to this field and so you're going to see continuing performance in this segment where we're delivering water to the commercial oil and gas operators. Our Land Development, one of the things that we want to highlight really is kind of the settling out of interest rates and the activity that's going on within the Land Development.
We have three phases currently under construction. Phase 2a, which is our first 219 lots, that's approximately 96% and I think we've got a couple of homes that are still under construction in there from some of our builders. But for the most part, most of those lots are finished and then our activity in there is about 96% finished. We've got some landscaping needs that are very seasonal in their orientation. So as you take a look at the accounting of that, that's about 96% complete, and we do that on a percent complete basis. So you see how that hits the income statement by virtue of our percent complete accounting methodology. Phase 2b, we're looking at about 52% complete, and we're really in the process now of grading out and prepping for that asphalt and curb and gutter on that so that those lots will be delivered.
We have finished lots that are available for our homebuilders on some of the infrastructure that overlaps with 2a and so our builders are out within the county looking for building department approval for their master plans and then we'll be under construction probably in later this month or into May, and then continuing through the rest of the year. And then overlapping those is our third phase, which is another 220 lots from Phase 2c and that's where we've released the contract for our grading contractors. They've been on site since February. They'll be finished with their work, then we'll get the utilities in there and look to be delivering some of those finished lots towards the end of the calendar year. And so what you've got is really three phases.
I'd say two phases concurrently with about 500 lots under production for delivery to our builder partners where they can obtain their building permits and really go vertical. And then on top of that, we really do have our fourth subphase that Phase 2b, which will be another 215 lots. And those lots really, we'll look to plat those by the end of the year and get those under production by the spring of 2025. So really accelerating the development of our Land Development, mostly because of the demand and the fact that Sky Ranch is one of the very few master planned communities in the Denver market that still can deliver entry-level product. I dare say, affordable because when you say an entry-level product is anything less than $500,000, it's hard.
But affordability is one of those strong issues in our market as well as many other markets in the country and it's really a function of just the cost of delivering lots. Let me move to Single Family Rentals, and I'm going to pass the baton over to Mark Spezialy and have him give you an update on our Single Family Rentals.
Marc Spezialy: Thank you, Mark, and good morning, everyone. We're excited about the Single Family Rental segment, and we're excited to share the continued success of this safe segmented (ph) it brought. We continue to see high demand in the units. And in the second quarter, we had 100% occupancy. As shown in the charts, we're beginning to see the compounding impact to both revenue and asset valuation as we bring additional units to the market. We'd like to continue to highlight that our Single Family Rental 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 price loss and our water availability in this competitive housing market.
This table represents our projections for this segment as we continue to build out Phase 2. To date, we've completed the 4 units in Phase 1 and the 10 units in Phase 2a. As you can see from the chart, we are beginning to ramp up the number of units that we will be bringing online. Construction on the 17 units in Phase 2b will begin this summer. And once completed, we will have more than double the units we have available to rent. We are also expanding the variety of types of units we are offering to market in our next build. By being vertically integrated between segments, we can control our building costs because of our equity position in the land and water resources needed to build a home. We are also able to control our operating costs by maintaining and managing these units in-house.
This next slide is a visual approach to the projections we just discussed. It showcases the projected growth in our recurring rental revenue as we expand into Phase 2 and reach nearly 100 units. We've also included a separate graph of the estimated increase in asset valuation based on the realizable equity we build with each completed unit. And with that, I'd like to turn the call back over to Mark Harding to discuss our portfolio of assets further.
Mark Harding: Thank you, Marc. So what I'd like to do is give you an overview of each of the segments and drill down on investments and capacities and really talk a little bit about our utilization because we have tremendous capacities in each of those and what things we try to do is stay ahead of the market on that so that we can really react to the market in terms of delivering lots, delivering water service availability and then as we start to continue to build our Single Family Rental segment. So with that, as you know, we have these three segments, each continue to build and monetize our assets. The review of the size of each of these pies in the segment, when you take a look at sort of our Water segment, as I mentioned earlier, we have about 60,000 connections worth of capacity in our Water portfolio.
And currently, the developed amount of system that we have can serve 3,600 taps. And right now, we have about 1,300. So it tells you we've got about 50% excess capacity within that Water segment. So what we've done is, we continue to build ahead of that. And it's not that, that's idle capacity because we are using that capacity to serve oil and gas needs. In the Land Development segment, we had a 930 acre master planned community. What we've got developed on the Water and the Wastewater side can serve up to about 3,200 residential lots, and that's the full build-out of Sky Ranch as well as 2 million square feet there. The water system is at that 3,600 taps. The wastewater system is probably closer to around 2,500 and so we have those fixed capacities that we have plenty of opportunity to continue to deliver taps and water usage revenues.
And then on a Single Family Rental, as Marc was highlighting, we like this segment very much, and it's an opportunity for us to continue to build asset value as well as recurring revenue value on our income statement. And we're looking at somewhere between that 200 and 300 units. So that will be probably around 10% to 12% of the total capacity of the residential lots within the Sky Ranch community. And we -- that seems to be where our balance is, so we continue to invest in those segments. If you drill down on just the Water segment alone, Water is kind of divided into two segments where we get upfront capital fee, which is our tap fees, and then we have usage fees. And that usage fees really is divided into our residential customers as well as our commercial industrial customers.
And as you saw in our results of operations, we had a pretty close to a record quarter, and then you're going to see a record year for us in terms of oil and gas deliveries. We delivered a little over 1,000 acre feet. We have the capacity of about 3,700 acre feet, so that's the gray bar there. And then when you take a look at annualizing that, what we think we're going to do will probably be right around that 2,600 acre foot capacity. So still a lot of opportunity for us to continue to deliver that and good partnership relationship with our oil and gas partners and continuing to deliver water for that segment. Taking a look at our tap fees. As we mentioned, our tap fees continue to really pair at the market. And so you see our tap fees closer to $40,000 combined connection capacity.
If you take a look and apply that over to our 60,000 connections, that's a little over $2.3 billion worth of value there. We currently have about 1,200 capacities at our Single Family Rental side, I'm sorry, not a Single Family Rental, but our residential capacity, which is really just about 2% of our overall capacity. Taking a look at our Land Development capacities. Sky Ranch has that capacity of around 5,000 single family rentals and breaking that out between the residential and the commercial really all our activity has been in the residential side. The commercial activity is becoming a little bit more attractive. There's a certain number of rooftops that the commercial likes to see and this is big commercial, right? This is not just your local retail commercial.
This is going to be regional commercial. And so, given the fact that our location is right on the interstate, that we have an interchange right along the interstate that we are working to improve and upgrade that interchange. So we've been working through that with the county and CDOT to be able to get that, and we should have a permit on that new interchange towards the end of the year, and then the timing of construction of that will see depends on how that commercial demand matures, but we do have some mills that are set aside specifically through our Sky Ranch cap to be able to issue the debt to be able to fund the construction of that interchange. So that gives you kind of a feel for what we're looking at and really the metric on the left-hand side of that scale shows that this brings us close to $700 million worth of realizable revenue on Sky Ranch.
And if you take a look at our capital account on there where we have $4 million on that, that's really one of the more interesting undervalued aspects of the company and how these assets continue to generate revenue for the company. Taking a look at our single-family rentals. Again, we're just giving you a little bit of analysis on how many units that are in each phase. And one of the things that we've done with our builder partners is increase that portfolio. As many of you following the company, we had originally, when we contracted with our builders on Sky Ranch on the Phase 2, we were looking to increase that portfolio to close to 40, and I think we've more than doubled that now. And really partnering with our builders where we are one of their first customers.
We're coming in and asking them to be building on lots that we own and making sure that they have absorption in the marketplace and opportunities for us to use their product in that portfolio. And so that's been a very good partnership with us. Some of the key takeaways before I turn it over to questions and answers are going to be our gross margins. We continue to generate high margins within the business. Significant return on assets and significant growth within the overall portfolio, taking a look at each individual business segment and the company as a whole. One of the updates I want to do is, we continue to be in the market. We do believe that the market has a disconnect between the value of the company and where we're trading. And so we -- our Board did authorize a share repurchase, and we are in the market buying shares each month.
And so we'll continue to do that. We'll continue -- because of our liquidity and because of our stewardship of the portfolio and our investments, we continue to be able to fund our operations through our own -- through our own liquidity and then can also continue to reduce that denominator to provide returns to our shareholders that way as well. So with that, a little bit about our Board, but I'll turn it over to Q&A. So I'm going to kick it back to Jenny. And if you've got some questions, certainly chime in, and we'll try and drill down on some of the color on that.
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