Consolidated Water Co Ltd (CWCO) 2010 Q3 法說會逐字稿

Hello, and welcome to the Consolidated Water Company third quarter 2010 conference call. All participants will be in listen-only mode. (Operator Instructions). After today's presentation, there will be an opportunity to ask questions. Instructions on how to ask your questions will be provided at that time.

This conference call may include statements that may constitute forward-looking statements, usually containing the words believe, estimate, project, intent, expect or similar expressions. These statements are made pursuant to the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements inherently involve risks and uncertainties that could cause actual results to differ materially from the forward-looking statements.

Factors that would cause or contribute to such differences include, but are not limited to, continued acceptance of the Company's product and services in the marketplace, changes in its relationship with the government of the jurisdictions in which it operates, the ability to successfully secure contracts for water projects in other countries, the ability to develop and operate such projects profitably, and other risks detailed in the Company's periodic report filings with the Securities and Exchange Commission.

By making these forward-looking statements, the Company undertakes no obligation to update these statements for revisions or changes after the date of this conference call. Please note, this conference is being recorded.

I would now like to turn the conference over to Rick McTaggart. Please go ahead, sir.

Thanks, Camille. Good morning, ladies and gentlemen, and thank you for joining David and I on this call this morning. The performance of our core businesses in the third quarter was significantly impacted by much wetter weather than last year, and to a lesser extent by continued poor economic conditions in our Caribbean market area, a trend that started earlier this year. The combination of these factors has had a particularly significant impact on our retail business in the Cayman Islands. However, our net income was positively impacted by a profit on our equity investment in our BVI affiliate, resulting from the payment by the BVI government of a further $2 million against the September 2009 court-ordered judgment, and our affiliate's water sales from the Bar Bay and Jost Van Dyke desalination plants.

Revenues in our retail business declined by about 18% this past quarter compared to 2009, due to several factors. Firstly, our base water rates decreased by about 7% in January of this year, reflecting downward movements in the consumer price indices used to determine these rates. Secondly, our water sales volume decreased 19% from prior year levels, due to excessive rainfall in the third quarter, which was in fact nearly double the 30-year average, and was more than 125% higher than rainfall during the same period in 2009. The impact of wetter than normal weather was particularly evident in our sales to one of the golf courses in our franchise area, which were less than half the volumes of 2009.

Retail sales were also adversely impacted to a lesser extent by documented decline in population of the Cayman Islands by about 7%, or 4,200 people in 2009, due to a general economic slowdown in the country, as well as new immigration rules, which limit the period that foreign workers can live in the Cayman Islands. This significant decrease in revenues, coupled with the relatively high proportion of fixed costs in our retail business, caused the gross profit margin in our retail business to decline from 57% of revenues in 2009, to 50% of revenues in the last quarter.

The third quarter has historically been the least profitable quarter in our retail business because of tourists and weather patterns. On the other hand, the first and second quarters of the year are generally our most profitable, reflecting seasonal strength in tourist arrivals and drier weather. So, we are hopeful that our retail business will strengthen in early 2011. We are also encouraged by a recent tourist statistic, which indicate that stay-over tourist arrivals in Grand Cayman have increased over prior year levels. And again, this bodes well for a recovery in the island's tourism business.

We continued to negotiate with the Cayman Islands' government for a new water utility license in Grand Cayman, and have received two short license extensions over the past four months, to enable us to continue to supply water while these negotiations proceed. We provide a vital service to a large portion of the resident population, as well as the prime resort area of the Cayman Islands, and we see no reason why the government would not continue to extend the current license during these negotiations.

We noted in the press release that the new rate model proposed by the government is more complex than our present inflation adjustment model, and includes a guaranteed profitability range based on the Company's invested capital. The government's proposal includes a number of new variables and terms that directly impact water rates and our profitability, which has required that we spend more time and resources to carefully analyze their proposal to fully understand the implications to our business over the long-term. We hope to reach a mutually acceptable agreement with the government in the near future.

Now, I would like to turn the call over to David to talk about our bulk segment, services segment, and financial condition.

Thanks, Rick. Good morning, everyone. Our bulk water revenues decreased 6% due to several factors, three specifically that affected the performance of our Cayman Islands-based bulk water business. First, back in January, we were required to adjust the rates charged by Ocean Conversion downward due to the adjustments that were made annually for changes in the consumer price indices. Second, the volume of water sold in our Cayman Islands' bulk business decreased by 9% when you compare it to the same period of 2009, and Rick's already talked about some of the water declines that are attributable to rainfall patterns.

And in addition, we're now charging a lower rate for the water produced by the Red Gate plant under the new contract signed in connection with the refurbishment of that plant. Our costs were generally contained in all of our bulk businesses, and were consistent with our expectations. But the decline in revenues resulted in a decline in our bulk business gross profit margin from 21% of revenues in 2009, to 17% of revenues in the latest quarter, because a good portion of our costs in both of our big businesses, bulk and retail, are fixed due to the capital investment nature of our plants.

The bulk water sales in our Bahamas business remained relatively flat. And the continued improvement in our operating margin in the Bahamas is attributable to successful cost control and efficiency measures that we have implemented in previous quarters, and discussed in some of our previous filings. The Bahamas government continues to owe us a significant amount of receivables, but they have kept this receivable balance relatively constant, and they have gradually increased their monthly payments to us. So, we expect to have a decline in this balance going forward.

It's a good time, we think, to remind investors that the financial performance of our bulk business is much less susceptible to fluctuations due to tourism and weather patterns, than our retail business. We believe that overall fluctuations in our financial performance in future periods will be smoothed out, as we continue to grow our bulk business, and resolve some of our legal issues, especially related to the British Virgin Islands.

Our services business reported a loss from operations of $526,000 this quarter, but I think it's important for everyone to realize, this loss is attributable primarily to our decision to pursue a project in Mexico. We've spent approximately $900,000 in discretionary expenses in Mexico, as we pursue this project. As we've disclosed, we expect to spend up to $4 million for this project. We spent less than $2 million to date, so you can expect that our services segment will continue to be adversely impacted in future periods by the monies that we spend in pursuit of the project in Mexico. And Rick is going to talk a little bit more about this project later in the call.

The revenues from our services segment declined in 2010 as compared to 2009. We derive revenues from three sources in this part of our business. One is from plant construction costs, and construction activity was pretty much finished off for the immediate future this quarter. We derived revenues from the contract we have to run the Bermuda plant, and in the second quarter of this year we renegotiated that plant. As a result, we have a lower rate on that plant, we're making less money on it.

And the third component of our services income at the moment, were the management fees we derived for OC-BVI. And during this quarter, we received a $2 million payment from the BVI government, which enabled us to recognize some additional management fees for that operation. But overall, going forward, you could expect a little in the way of revenues from construction activity. So, as I said earlier, the operating costs that we'll be incurring in Mexico will continue to adversely affect this segment.

From a financial position, we continue to strengthen our balance sheet. We generated approximately $6 million in cash this quarter, and we continue to repay our debt. You'll note that we decided to repay $1.5 million in debt in the Bahamas. That debt carries a rate of about 7.5%, so you should see an improvement in our interest expense going forward. And as we continue to generate cash in the Bahamas, we would expect to further repay that debt.

We're very comfortable with our financial position. Working capital is strong, and really we have the cash we think to pursue projects in the future, and as Rick will talk about, the bidding activity is increasing, so we certainly have the capital to pursue those projects.

And with that, I'll turn the call back over to Rick.

Thanks, David. As David mentioned, we are pleased to see some new bidding activity in the Caribbean area, as well as in Mexico, after a relatively quiet period earlier this year. We recognized some time ago that, and we've talked about this on previous calls, that the Caribbean market has become much more competitive over the past few years for a number of reasons. And we have bolstered our sales and marketing resources to expand our reach into other areas, where we believe we can develop profitable businesses, potentially with partners.

We also believe that Caribbean governments continue to be under financial strain because of the worldwide economic slowdown, and this potentially presents opportunities to acquire businesses and/or assets from these governments as they struggle to raise cash. An example of this, we are currently evaluating tender documents recently released by the Cayman Islands government for the privatization of the waste water collection and treatment system in Grand Cayman. Normally, we would not look at such a business, since it's not consistent with our historical business model. However, the government waste water system falls exactly within our water utility franchise area, and we see some potential synergies with our de-sal operations, which make this business more attractive. The government is currently hosting interested parties for a pre-bid conference in Grand Cayman, and we'll continue to keep investors informed of any developments on this matter.

The government of the state of Baja, California in Mexico recently announced that they are tendering for the design, construction, and operation of a five million gallon per day seawater desalination plant in Ensenada, Mexico. And we believe that the partnerships and local knowledge that we have developed through the development of this large scale Rosarito project should make it an attractive bid opportunity for us.

And last, but certainly not least, we continue to devote a great deal of time and money to developing the Rosarito project with our partners. While we would like to remind investors that this is a speculative venture, we believe that there is a significant need for new freshwater sources in northern Mexico and southern California. And we've been very encouraged by the enthusiasm and interest that the project has received from potential customers in the region. Over the next few months, we will continue to focus on securing land, and the seawater source for the plant, which is planned to produce between 50 and 100 million gallons of desalinated water per day for the region.

And we were encouraged by an article this week in an industry journal, The Water Desal Report, that included a poll among its readers which ranked the Rosarito NSC Agua project as the third most likely project out of more than 11 southern California projects to make desalinated water first. So, we're very enthusiastic about this opportunity, and we will keep investors advised of our progress.

Now, I would like to turn the call over to questions.

Thank you. (Operator Instructions). Our first question will come from Christopher Purtill from Janney Montgomery Scott. Please go ahead, sir.

Good morning, guys. Thanks for taking my questions.

How are you doing, CJ?

All right. First, on the Mexican JV, you gave us some good color there. Can you talk at all about where you're seeing the initial interest from potential customers there? Is it more in the US, or are you still getting some nice interest from Mexican purchasers, if that project were to go forward?

It's really both sides of the border, CJ. That's what makes the project so interesting. It's one region that depends on water resources from the Colorado River on both sides of the border. And there's an acute need for new sources in both countries. So, we've seen enthusiasm on both sides of the border.

Okay. All right. That's helpful. And then you talked about improving bidding opportunities that you're seeing in the Caribbean. Can you elaborate there, where you're seeing the activity coming from, and maybe your initial take on some of the plant sizes that are being explored?

Yes, I would like to kind of keep that one a little close, CJ. But we are seeing some opportunities in the Caribbean area to expand our businesses. Some of this stuff is not public yet.

Okay. All right. Fair enough. Thanks, guys.

Sure. No problem.

Our next question will come from Michael Gaugler from Brean Murray. Please go ahead.

Good morning, guys.

Hi, Mike. How are you doing?

I'm good. Just really one question, Rick. Looking across the income statement for the last couple of quarters, back in Q1 we were about $2.5 million. That seemed to be a pretty good number on a run rate basis. Then we've stepped up here, again, due to the Mexican venture to a level that's running $3.2 million, $3.3 million. And I'm wondering, as we look out here for the next couple of quarters, just because of the variability that that can cause on your bottom line, do you think $3 million plus is a pretty good run rate?

Mike, are you talking about our G&A expense?

Yes, G&A.

Look, we don't project any component of our income statement. But I can say this, we've committed to spend $4 million in Mexico. We have spent -- you can get an idea of how much we're spending per quarter there. Just simply look at the amounts we've disclosed for the first two quarters. So, we will have incremental expenses related to Mexico that will continue to raise our G&A expense up above what we, the levels that we experienced prior to commencing this project. So, we certainly will be higher than what we've reported at the same time last year, I would think. But I can't give you an exact figure.

That's fine.

I think it's important to say that that is really the only thing that's impacting the G&A expenses at this point.

Yes.

Our business is very manageable from a G&A perspective. And our run rate has historically been quite consistent. So, really, if you factor in Mexico, if you analyze that, that's really the only thing that's impacting G&A for us.

Let me ask you -- let me ask the question a slightly different way then. When would you expect to go back to a more normalized run rate, (inaudible) as you look forward a couple of quarters?

I can say this. We may not return to that kind of level if we decide to proceed with the Mexican project. And what I mean by that is, we've committed $4 million to initial business development and activities. If that project goes forward, then we'll continue to incur incremental G&A for that. So, I can't give you an exact timeframe for that. And based upon what we know today, we're continuing to pursue Mexico because it looks like a viable project. Obviously, we're not going to incur these kinds of expenses unless we thought that the Mexico project gave us the kind of return that merited these expenses.

Understood. All right, guys. That's really all I had. The rest of it was pretty clear-cut. Thanks.

Sure, no problem, Mike.

(Operator Instructions). We show no further questions at this time. I would like to turn the conference back over to Mr. McTaggart for any closing remarks.

Thanks, Camille. And I would just like to thank everybody for joining us today, and I look forward to talking with you again early next year. Thank you.

To access the digital replay for this conference call, you may dial 1-877-344-7529, or 1-412-317-0088, beginning at 12.30 PM Eastern time today. You will be prompted to enter the conference number, which will be 445964. Please record your name and company when prompted.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.