Consolidated Water (NASDAQ:CWCO) Q2 2021 Earnings Call

0:00 Good morning. Thank you for joining us today to discuss Consolidated Water Company's second quarter 2021 results. Hosting the call today is the Chief Executive Officer of Consolidated Water Company, Mr. Rick McTaggart, and the company's Chief Financial Officer, Mr. David Sasnett. Following the remarks, we'll open the call to your questions. All participants will be in a listen-only mode. Should you need assistance, please signal a conference specialist by pressing star, then zero. To ask a question, you may press star then 1 on a touch-tone phone. To withdraw your question, please press star then 2. Before we conclude today's call, I'll provide some important cautions regarding the forward-looking statements made by management during the call.

0:46 I'd like to remind everyone that today's call is being recorded and will be made available for telecom replay via instructions and yesterday's press release, which is available in the investor relations of the company's website. Now, I'd like to turn the call over to Consolidated Water Co. CEO, Rick McTaggart. Sir, please go ahead.

1:11 Thank you, Vaishnavi. Good morning, everyone. Thanks for joining us on the call today. I hope everyone is well. Our second quarter 2021 results reflect the continuing adverse impacts of the pandemic on certain segments of our business. as well as an adjustment to the carrying value of our manufacturing segment necessitated by new order projections for AirX's historically largest manufacturing customer. Improved performance of our bulk water segment as well as growth of our services segment have partially offset these impacts. Our services segment revenue increased 8% to $3.8 million which accounted for 23% of our consolidated revenues. This was up from 18% in the second quarter of last year.

2:06 Our PERC Water subsidiary was responsible for this growth in our services segment. Based in Southern California, PERC operates and maintains water treatment and reuse facilities under contracted engagements, which have renewable terms that range from one to five years. with the majority having renewal dates beyond this year. During the second quarter, PERC generated about 90% of its revenue from such contracts with various entities in California and Arizona. Revenue from our bulk water segment increased 14% to 6.7 million in the second quarter due to higher volume sales and electricity pass-through charges.

2:54 Bulk Water gross profit increased 21% to $2.3 million compared to the second quarter of last year. However, our retail water segment continued to be adversely affected by the pandemic due to a moratorium on tourism and border restrictions that the Cayman Islands government enacted in March of last year to safeguard their population from COVID-19. According to the most recent statistics, only 651 reported infections and two coronavirus-related deaths have occurred in the Cayman Islands since the pandemic began. The Cayman Islands government's strategy to protect its citizens from the pandemic has been similar to that of other Commonwealth countries like Canada, New Zealand, and Australia, which have enacted strict lockdowns and many more.

3:57 Recently, government officials announced a five-phase border reopening plan through November of this year, which is available on the official Cayman Islands government website. The final phases of the plan, which include the reopening of the islands to a limited number of vaccinated tourists, are contingent on achieving at least an 80% vaccination rate of the local population. The vaccination rate is currently at 68% and has not moved much in the past several weeks. Consequently, we would not expect to see any change in the performance of our retail water segment due to the resumption of tourism in Grand Cayman until the first half of next year, at least.

4:46 Our manufacturing segment revenue declined due to the loss of orders from AREX's largest customer, as we have also discussed last quarter. However, while this customer informed us in July 2021 that they expect to recommence their orders in 2022 and subsequent years, we expect that these new orders will be at much lower volumes than in the past and less than what we anticipated previously. It was this change in projected future revenue, along with the continuing weakness in the economy arising from COVID-19, that required us to record an impairment loss in the second quarter for our manufacturing segment. Meanwhile, we continue to focus on other sectors and we are building a good manufacturing revenue backlog from new projects and new customers, which we expect to offset some of the revenue lost We expect to book revenue from these new projects in the latter half of this year and extending into 2022 as we begin production on these orders.

5:56 At the end of the quarter, our cash levels totaled $41.2 million and working capital was $69 million, with only about $200,000 in debt. We believe our strong balance sheet and liquidity position us to ride out the current adverse economic impacts of the pandemic while enabling us to fund our growth initiatives. Bidding activity for new projects in our services and manufacturing segments has increased significantly over the last few months, and so we're looking forward to future months and years with great anticipations. Before I talk further about this, I would like to turn the call over to our CFO, David Sasnett, who will take us through the financial details for the quarter.

6:47 David? Thanks, Rick, and good morning, everyone. As Rick mentioned, the pandemic has continued to create some significant challenges for us, as it has for many companies. But despite these challenges, we have maintained a strong financial foundation as we pursue new opportunities to grow organically and acquisitively, and we have continued to pay dividends. Revenue totaled $16.7 million in the second quarter which decreased 13% from the same quarter of the prior year. This decline included decreases of $292,000 in our retail segment revenue and $3.2 million in manufacturing segment revenue. The decreases in these two segments were partially offset by revenue increases of $846,000 in our bulk segment and $287,000 in our service segment.

7:37 Retail revenue declined due to a 2% decrease in the volume of water sold by Cayman Water. The sales volumes for both 2021 and 2020 have been significantly below the historical volumes for the retail segment prior to 2020 due to the continued moratorium on tourism in Grand Cayman. The increase in bulk segment revenue was due to an increase in CW Bahamas revenue of $844,000. due to higher energy costs, which correspondingly increased the energy pass-through component of CW Bahamas rates. The increase in bulk segment revenue is also due to a 9% increase in the volume of water sold by CW Bahamas. The decrease in manufacturing revenue in the second quarter of 2021 was due to the decrease in orders from Eric's former largest customer, as discussed previously by Rick, and This customer informed AirX in 2020 that it was suspending its purchases of a specialized product until 2022.

8:40 In late July 2021, this customer again communicated to AirX that it expected to recommence its purchases of the specialized product from AirX in 2022 and subsequent years, but it also said such purchases would be at substantially reduced annual amounts in terms of both the amounts it had purchased from AirX in 2020 and prior years, and from the amounts we previously believed they would purchase from us. We continue to expect, although cannot guarantee, that the orders from this customer will resume as they have indicated. However, as Rick will cover later, they are also discussing with us other products that Eric's could potentially manufacture for them. Gross profit for the second quarter of 2021 was $6.1 million or 36% of revenues as compared to $7.3 million or 38% of revenues in the second quarter of last year.

9:31 This decline was largely due to lower revenue generated by our retail water operations and manufacturing segments. Even though total revenue decreased, our bulk segment gross profit increased 21% to 2.3 million. For the second quarter of 2021, the net loss attributable to consolidated water shareholders, which includes the results of discontinued operations, was $1.7 million, or a loss of 11 cents per basic and fully diluted share. But if you exclude the manufacturing segment of pyramid loss of $2.9 million, net income attributable to consolidated water was $1.2 million, or 8 cents per basic and fully diluted share. Turning to our balance sheet, our accounts receivable balances related to our Bahamas business amounted to $21.3 million at the end of the second quarter, which was up from $16.8 million We believe the increase in accounts receivable resulted from the adverse impact of the pandemic on the revenue sources for the Bahamas and its government.

10:38 Such delinquent accounts receivables we have experienced in the past were eventually paid in full. Also, given our recent contact with the government of the Bahamas Ministry of Finance, we believe that reducing this balance is a priority for them. So based upon their payment history, our majority owns subsidiary CW Bahamas has never been required to provide an allowance for doubtful accounts for any of its accounts receivables, despite the periodic accumulation of significant delinquent balances. And as of June 30th, 2021, we had not provided an allowance for doubtful accounts for CW Bahamas accounts receivables. It is important to note that so far in 2021, we have received $14.4 million on our Bahamian accounts receivable, including two payments in the last two weeks totaling $5.7 million. We believe their recent payment history is a clear indication that the Bahamas government is moving towards reducing the balance of these delinquent accounts receivables.

11:37 As of June 30th, 2021, our cash and cash equivalents totaled $41.2 million and our working capital totaled $69 million. We believe this position affords us more than sufficient financial resources to maintain our normal operations while still pursuing our strategic initiatives. And this completes my financial report. I'd like to turn the call back over to Rick.

12:00 Thanks, David. In our manufacturing segment, one of our key strategic initiatives has been to build a diversified book of business for AirX. It is not concentrated on one specialized product or large customer. With this in mind, we have continued to develop our sales channels in order to create a more diversified customer base and product line. Since we acquired AirX, its revenue has been predominantly from the sales of a specialized water treatment product to one customer. In the first quarter of 2020, last year, we increased resources in our sales team and began to focus on other sectors and customers to diversify our revenue base.

12:46 As a result, in the first half of this year, we generated manufacturing revenue of $2.2 million from new customers and or products, which was equal to all of the revenue generated last year from customers other than AirX's major customer. We presently have contracted project backlog of approximately $9 million from new customers and or products. which have begun to impact revenues in the second half of this year and will carry into 2022. In addition, we have recently bid for 4.8 million of additional work, which we hope to receive news on in the near future.

13:31 Our manufacturing sales team is doing a great job diversifying AirX's revenue stream, but it will still take more time to hopefully replace the significantly reduced revenue stream from AirX's historically largest customer. It is important to note that AirX maintains an excellent relationship with its largest customer and has recently sent us requests. They have recently sent us requests for proposals and quotes for other products. Earlier this year, AirX passed a highly technical and demanding quality assurance examination performed by another major customer for the purpose of qualifying AirX for various highly technical manufacturing projects.

14:17 And thus, we now have that customer's clearance to perform this work. As a result, we expect to continue to receive orders for products other than the specialized product we've historically made for this customer over the last few years. Given our success in diversifying our product and client base, increased product bidding activity, and the magnitude of our current contracted project backlog, we expect a significant increase in manufacturing revenue in the second half of this year as compared to the first. We are able to sustain and build on these successes over the next couple of years. We would further expect our manufacturing revenue to be back to historical levels with less customer and product risk concentration.

15:08 We are also seeing an increase in bidding activity for new design-build projects and operating contracts in our services segment through PERC Water. In fact, PERC is now at its busiest level since we acquired the majority ownership interest in this subsidiary in late 2019. Prospective customers in California and Arizona are seeking cost-effective solutions to their wastewater treatment and potable water challenges particularly those being caused by the unprecedented drought in the region. FERC is currently awaiting decisions by clients on design-build projects and operating contracts, which were recently bid, which are valued at more than $55 million and could result in recurring revenues of more than $2 million per year over the life of these operating and maintenance agreements.

16:05 After a long dry spell, we are currently pursuing two significant seawater desalination projects in the United States. One is a 30-year design-build-operate project, and the other is a manufacturing project. Our more than 45 years of experience in designing, building, and operating these seawater desalination plants allowed us to pre-qualify for both of these very important projects. and if we are successful in obtaining these contracts, these would be our first seawater desalination plants in the United States. As David mentioned, our strong balance sheet and greater liquidity supports our efforts to expand our business organically and through acquisitions and new projects.

16:55 This includes further broadening of our water solutions offerings and target markets as well as pursuing acquisitions and strategic partnerships in seawater desalination and for our services business. So while we've had many challenges over the past year due to the pandemic, in all our opportunities and growth prospects are very encouraging. We expect improved financial results in the second half of this year as compared to the first six months due to our successful efforts to diversify AirX's revenue and customer base as well as PERC's strengthening business activity. Given the strong industry tailwinds potentially enhanced by the major increase in federal infrastructure spending recently passed in the U.S., we will continue to focus on those opportunities that will provide increasing value for our shareholders, and we remain confident that we will emerge from this long pandemic better and stronger than ever.

17:58 With that, I'd like to open the call for questions. We will now begin the question and answer session. To ask a question, you may press star, then 1 on your touch-tone phone. You are using a speakerphone. Please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star, then 2. At this time, you will pass momentarily to a similar roster. Our first question comes from Jerry Sweeney with Roth Capital. Please go ahead.

18:42 Good morning, Rick and David. Thanks for taking my call.

18:45 Hey, Jerry.

18:48 I want to start on the services side. Rick, I believe you said I think that $3.8 million, let me make sure I have the right number for services. Did you say the majority of that is nonprofits? from contract work, sort of O&M-type structures today and not from project work?

19:11 I didn't break it down. I said that for services, we have about $55 million in outstanding bids. It's a mix of design-build work and operating contracts.

19:25 You were talking about the existing revenue, right, Jerry?

19:27 Yes, yes, yes, sorry.

19:29 Yeah, about 90% of that is O&M work. Okay. operations and maintenance contracts. PERC's been very successful in growing that part of the business. We're now seeing an increase in bid activity for design-build projects, so we hope to increase that percentage of revenue generated by PERC.

19:45 Gotcha. And that $55 million that, Rick, you were just mentioning about, do you know when some of those award timelines are scheduled to be released or updated?

19:58 Yeah, I wish I did. I mean, a lot of this stuff is moving around because of budgeting things, you know, on the client side. It's difficult to project.

20:11 Got it. Okay. But then, I mean, in that $55 million, there's the potential for upwards of $2 million more of additional O&M work.

20:20 In recurring work, yeah.

20:21 Yeah, got it. Okay, that's great. On the manufacturing side, I appreciate the actual little bit more detail in the backlog. It's helpful. You discussed some of the technical aspects of what ERIX does in being qualified. If we look at the backlog we see building today and the projects we're going after, is there a material difference in margins of this work versus the work that the ERIX used to do for the former customer?

20:53 Well, Jerry, the former customer is still going to buy from us and is still going to buy that product from us. Former largest customer. Former largest customer, yeah. But the thing is, it's always tough to get information from them. They're very guarded on that. But that business was very hard margin work. We think there are a couple of projects out there, both with this former customer and with other customers, that we'll be able to utilize Eric's experience unique manufacturing capabilities and generate very healthy margins and excesses, let's say 30% on those manufacturing contracts. And that's really the focus of the business is to grow in areas where margin, where Eric's differentiates itself and can utilize its capabilities to generate higher margin.

21:39 But there's a substantial amount of work out there that's more basic that Eric's is also pursuing. And that does not generate the kind of margin that this former business did. So... If you're looking at historical margins for 2020 and 2019, it's going to be hard to get back to that quickly. But we still think the business out there that Eric's is pursuing will be healthy margins.

22:03 Got it. So maybe to summarize, targeting higher-end margin work, however, that's a little bit longer lead time and you're going to backfill potentially with some lower margin work until, you know,

22:17 Yeah, bread and butter is kind of stuff that AirX can do easily. We're bidding on a lot of stuff, and it's more commodity-type products, so the margins are lower. We want to keep the operation fully utilized to the extent we can. Part of the issue in the first quarter, the first six months for AirX, is that its margins are down because we kept all the manufacturing people on staff. We made a commitment to keep them even though the production activity was low for the first six months. You'll see margins improve in the second half of the year as production activity increases. It's not easy to build a workforce and we didn't want to lay off a bunch of people just because there was a delay in the work that we were getting until the second half.

23:01 I completely understand and completely agree. If they're talented, you've got to keep them and manage it. I wouldn't have any issues with that. You did say We're looking for a substantial increase, second half versus first half. I don't know if you used substantial, but we're looking for an increase.

23:21 Significant.

23:22 Significant, okay. Got it. I wanted to make sure.

23:27 We'll have a better second half than the first half, Jerry, especially manufacturing.

23:33 Okay, got it. And then just turning to the desal side, obviously it looks like the Bahamas region, Back the Envelope Looks like retail's probably about a million dollars of gross profit drag through this pandemic. Is that sort of a fair assessment?

24:16 Well, you can look at the results for the second two quarters of last year. And unless there's a huge difference in rainfall patterns, I mean, you have a core group of people there that are using the water, the residents, and you can expect the second half of this year to look a lot like the second half of last year. There's no reason for it to look any different, Jerry, other than rainfall patterns. We're not increasing rates, so you would think they're using about the same volume of water they did last year.

24:44 I got it. I mean, what I was really driving towards was you have manufacturing rebounding.

24:49 You have opportunities in PERC.

24:53 Bulk water seems to be doing fine. At some point, I would expect the Caymans to open up, and there's a million dollars plus of gross profit dollars that could eventually flow through, so... There are several levers of profitability that can flow through over the next 12, 18 months.

25:12 Correct, yeah.

25:13 No one's more interested in Cayman's opening than us, Jerry. Hopefully that'll be sometime sooner rather than later.

25:22 Got it. Okay, that's it for me. I appreciate it. Thank you.

25:28 Thank you, Jerry. You too, Jerry. As a reminder, if you have a question, please press star then 1 to be joined into the queue. This concludes our question and answer session. I would like to turn the conference back over to Mr. McTaggart for any closing remarks.

26:01 Thank you. I'd just like to thank everybody who joined this morning, and stay safe, and we'll talk to you again in November. Bye-bye. Thank you, ladies and gentlemen. Before we conclude today's call, I would like to provide the company's safe harbor statement that includes cautions regarding forward-looking statements made during today's call. The information that we have provided in this conference call includes forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including but not limited to statements regarding the company's future revenue, future plans, Objective, Expectations, and Events, Assumptions, and Estimates.

27:01 Forward-looking statements can be identified by the use of words or phrases usually containing the words believe, estimate, project, intend, expect, should, will, or similar expressions. Statements that are not historical facts are based on the company's current expectations, beliefs, assumptions, estimate forecasts and projections for its business and the industry and markets related to the business. Any forward-looking statements made during the conference call are not guaranteed of future performance and involve certain risks, uncertainties, and assumptions, which are difficult to predict. Actual outcomes and results may differ materially from what is expressed in such forward-looking statements, Factors that would cause or contribute to such differences include but are not limited to continued acceptance of the company's products and services in the marketplace, changes in its relationships with the government of the jurisdictions in which it operates, the outcome of its negotiations with the same government regarding a new retail license agreement, the collection of its delinquent accounts receivable in the Bahamas, The Possible Adverse Impact of the COVID-19 Virus on the Company's Business and Various Other Risks as Detailed in the Company's Periodic Report Billings with the Securities and Exchange Commission, SEC.

28:33 For more information about risks and uncertainties associated with the company's business, please refer to the management's discussion and analysis of financial conditions or results. of Operations and Risk Factor sections of the company's SEC filings, including but not limited to its annual report on the Form 10-K and quarterly reports for Form 10-Q. Any forward-looking statements made during the conference call speak as of today's date. The company expressly disclaims any obligations undertaken to update or revise any forward-looking statements made during the conference call to reflect any changes in its expectations with regard thereto or any changes in its events, conditions, or circumstances of which any forward-looking statement is based, except as where it may be required by law. Before we could end today's conference call, I would now like to remind everyone that this call will be available for replay starting later this evening. Please refer to yesterday's earnings release for dial and replay instructions available via the company's website at www.cwco.com.

29:48 Thank you for attending today's presentation. This concludes the conference call. You may now disconnect.