Consolidated Water Co Ltd (CWCO) 2012 Q2 法說會逐字稿

Hello and welcome to the Consolidated Water Company second-quarter 2012 operating results 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, intend, 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 products and services in the marketplace; changes in its relationship with the governments 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.

Now, I would like to turn the conference over to Rick McTaggart. Mr. McTaggart, the floor is yours.

Thanks Mike. Good morning ladies and gentlemen. I'm joined today on the call by David Sasnett, our Chief Financial Officer. We appreciate you taking time from your busy schedules to join us.

As reported in our press release yesterday evening, our operating results in the second quarter were adversely impacted by unusual weather conditions with more than two feet of rain falling on Grand Cayman in the second quarter this year, compared to just four inches during the same period last year. In spite of this abnormally high rainfall which reduced our Retail segment revenues by approximately 10% compared to the second quarter of 2011, we were able to achieve overall results which are comparable to last year because of improvements in our Bulk segment results.

Our net income was up slightly by 1% this past quarter compared to last year with a consistent diluted earnings per share of $0.13 per share. Retail sales by volume decreased by 17% this past quarter, due to higher rainfall which reduces demand for our water. Investors may recall that we had a volume decrease in the third quarter of 2010 of about 19% because of unusually high rainfall during that period. So far in the third quarter this year, rainfall amounts appear to have returned to normal levels.

Gross profit from our Retail segment declined by 14% compared to the same period last year due to lower sales volumes. Late last week, we received from the Water Authority Cayman a fully executed extension of our exclusive retail license in Grand Cayman through December 31, 2012. As previously disclosed to investors, we were advised by the government of Cayman Islands in late May that they considered the Water Authority Cayman to now be the principal negotiator in our retail license negotiation which had been ongoing for more than four years, and previously the government itself was the principal negotiator.

At about the same time, the Water Authority Cayman advised us that it had determined that our retail license should employ a new rate determination methodology, specifically rate of return on invested capital model, which we refer to as the RCAM rate model. The Water Authority stated position is that such a model is in the best interest of our consumers and would protect the public interest of the Cayman Islands. However, we believe that our current rate model encourages efficiency on our part and the delivery of superior water quality and services to the public. It is a rate model that served Grand Cayman quite well for more than 30 years as we provide the island with perhaps the highest quality and most reliable water service in the Caribbean.

The RCAM rate model is essentially a model which would determine our rates based on a guaranteed return on invested capital, as I said, so we are at a loss to understand firstly how this determination was made; secondly, how a model which provides private shareholders with a guaranteed almost risk-free return on our invested capital can be in the public's best interest; and thirdly, how such a model could possibly promote the efficient and cost effective operation of any enterprise.

So, in an effort to resolve these issues as well as to get clarity on certain provisions of two laws that were passed by the government in January last year, we filed an application for leave to apply for judicial review with the Grand Court of the Cayman Islands in July, stating firstly that certain provisions of these two laws appear to be incompatible, secondly that the Water Authority's role as principal license negotiator, statutory regulator, and our business competitor creates a clear and irreconcilable conflict of interest for the Authority, and lastly that the Authority's decision to replace the rate structure governed by our current exclusive license was predetermined and unreasonable.

So the Authority's conflicted position was further highlighted last week when a Cayman government minister stated in a public meeting in West Bay, Grand Cayman that the government's firm position is that any divestment of the Water Authority's operating assets would be offered to Consolidated Water first. This meeting was held to communicate to the public the government's positions with respect to balancing the country's budget and with respect to a proposed new payroll tax intended to help reduce the country's large budget deficit.

We hope the court will be able to deal with our application quickly but we are unable to provide investors with a time frame for the court's decision. And we of course remain willing to meet with the government to discuss any reasonable way forward to deal with these pending issues.

Turning to our Bulk segment results, consistent with our expectations, the expansion of the Blue Hills plant in Nassau which was completed in November last year enhanced revenues and gross profitability of our Bulk segment by 31% and 62% respectively, reflecting a 30% increase in the volume of water sold in this operating segment. Results from our Belize and our Cayman Islands Bulk water operations were consistent with our expectations and with prior-year results.

Services revenues declined to approximately $100,000 this past quarter compared with approximately $500,000 in the second quarter of 2011, reflecting the expiration of our management services contract in Bermuda last June. Services segment recorded a gross profit of approximately $77,000 last quarter compared to a gross profit of $325,000 in 2011 and the decline in gross profits reflected the decrease in the segment's revenues. However, investors should expect Service segment results to improve when we finalize a new management and engineering services agreement with the new retail water joint venture in the Bahamas in the third quarter this year, which I'll talk about a bit more after David provides a few comments on the Company's financial position.

Good morning everyone.

Through the first six months of this year, we've continued to strengthen our strategic financial position. In addition to generating earnings and cash flow, we decided to utilize some of our available cash balances to reduce our outstanding debt and to make investments in what we consider to be very promising new business opportunities.

If you look at our cash flow statement on our balance sheet, you will note that we have prepaid $8.5 million in bonds in the first quarter this year that were payable by our Bahamas subsidiary. These bonds were issued initially in 2005 to fund the construction of the first phase of our Blue Hills plant. We've also paid off $7.5 million of short-term barring string this quarter that we incurred to finance the Phase II expansion of Blue Hills.

You'll note that as a result of these repayments, our interest expense declined by more than $220,000 over the first six months of 2012 when you compare that amount to 2011. At June 30, 2012, our capitalization consisted of $131 million in equity and only $7.6 million in debt. That gives us perhaps the lowest and healthiest debt-to-equity ratio in our industry.

Even with these prepayments, our working capital remains quite healthy at more than $42 million. While our receivable balances have grown somewhat since year-end, we expect improved collections and reduction of these balances over the remainder of 2012, as we anticipate the Bahamas Government will reduce its level of past-due receivables for their Bahamas subsidiary.

We are also hopeful that we will receive some additional cash payments during the remainder of 2012 from our OC-BVI affiliate as a result of their successful appeal with respect to the Baughers Bay litigation that has been ongoing for some time now.

Our Company has long held the view that our business model can be successfully implemented beyond our current geographical footprint. And with this strategic belief in mind, we've elected over the past two years to incur certain discretionary expenditures to pursue new business opportunities in Mexico and Asia. Rick is going to talk about both of these in a moment. We remain optimistic of our success in both of these markets, though those of you that invest and otherwise follow our company should be aware that we will continue to expend funds as we deem appropriate over the remainder of 2012 for these ventures. Those of you who are looking at our cash flows and earnings for the latter half of the year should also factor into the equation our upcoming $7.7 million investment in our joint venture with NPDC in the Bahamas, and the impact of that joint venture on our earnings during the latter half of this year.

With that, I'll turn things back over to Rick.

Thanks David. Earlier this year, we announced that we had agreed to purchase 50% of the ownership of a joint venture in the Bahamas which provides water to approximately 1000 customers on the western end of New Providence Island pursuant to a 25-year exclusive water utility franchise granted by the Bahamas government. This new venture is an excellent addition to our Bahamas operations, and will be the first retail venture for our Company outside the Cayman Islands. Although we had anticipated closing this deal on or before June 30, various administrative nonbusiness matters delayed the closing, and we expect this transaction to close very soon.

On the 100 million gallon per day project in northern Mexico, we extended our rights to purchase an 8.3 hectare parcel of land in Rosarito, Mexico which is important to the success of the project. And we also continue to make progress on establishing a small pilot plant on the site with our strategic partner, Doosan Heavy Industries of Korea.

For a while now, we've been talking about a project which we have been developing in Asia and we are pleased to announce that we have secured a contract with a resort property in Bali, Indonesia initially to supply less than 100,000 gallon per day. However, we expect to be delivering water to that property in the fourth quarter this year and we believe that this is just the start of a larger opportunity to supply water to other resort properties in the area and we are developing the project with that in mind so it could accommodate the expected growth.

So with that, I'd like to open the call up for questions. Mike?

(Operator Instructions). Tim Fronda, Sidoti & Co.

With the pilot plant operation in Mexico, can you give any guidance as to the timing for renewing the rights to the land and actually constructing the site, and also how big of an operation will this pilot plant be?

The pilot plant is not going to generate any revenues. That is basically a test plant to help us -- assist us with the design of the project. We expect that to be operational in the fourth quarter, and that will start providing the data we need to progress with the project.

Okay. And do you have any other new projects outside of Mexico and Bali sort of close to being finalized, maybe start developing in the remainder of 2012 or early 2013?

I think we've summarized pretty well what we are working on. There are some other opportunities that may come up. I mean, we have a contract renewal in the Bahamas that's coming up, and it's possible they may want some changes to that plant. That will be early next year.

In addition, I mentioned earlier that the Water Authority in Grand Cayman appears to be up for sale, and the government seems to be very predisposed to talking to us about acquiring that asset, so that would be an excellent addition to our retail business in Grand Cayman.

Great, thanks for your time. Good luck.

(Operator Instructions). [John Baer], SKA Financial Services.

Good morning. A number of questions you addressed already, but a couple quick ones here. The 75 -- or $7.5 million of restricted cash that was showing up in your last quarterly report, did that just get moved into cash and equivalents or is that part used up for paying the debt down?

Yes, anyway you look at it, it's the same thing. We used it to pay off the debt or you could move it into the unrestricted cash and use that cash to pay off the debt.

Okay.

But it's going off the balance sheet.

And then it looks like your ARs dropped pretty good quarter-over-quarter, and you think that's going to come down on a comparable -- it looked like it was about $4 million or so, $3 million to $4 million. Do you think that will happen again this coming quarter? Is that just kind of dependent on Bahamas paying you? (multiple speakers)

The Bahamas got behind somewhat in their receivables to us, but they recently completed their budgeting process, the governmental budgeting process, and under which we understand they allocated monies to us, pay up our receivables. So we would expect to get those monies in the latter half of 2012.

Bahamas always maintains a significant receivable balance with us. That's just the nature of the way they operate. We are usually about -- we usually have about three months of receivables due from them. It's a little bit more than that now but we expect them to pay it down to more along the 90-day level over the latter half of 2012. It's their pattern, they've done it before, and we expect that again for this year.

Okay. And one -- I got a number of others, I'll give one and then get back in the queue so someone else can ask, and that is the -- as far as getting the rights for the Mexico project, is there a term for that, in other words a contract of five or ten years, or how does that work?

It was rights to purchase a strategic piece of land, and it was -- the agreement is actually until May of 2014, so 1.5 years approximately.

Okay.

We believe, at that point, we will be in a position to proceed with the project and have financing for the project. Our window has been sort of the end of next year to be in a position to raise financing and to proceed with the construction.

I'll get back in queue.

I'm sorry, so you go ahead and may proceed with your questions. (Operator Instructions).

Great, thank you. Go over my notes here. I'm just wondering if the Cayman Water Authority or ex-US congressman or something -- they seem to keep kicking this issue down the road. But just wondering what do you think is the -- your comments indicated you're hoping to get some kind of resolution on this by the end of 2012, but if it isn't addressed at the court level or whatever, do you have any sense of how long this is -- it's dragged out for four years. Is it going to be another four years, do you think? Or --

I really can't say at this point. We'd like to get it resolved as quickly as possible. We just want to make sure that we are talking to the right parties in the negotiations, and that there's no other interest which conflict -- make the parties conflicted. So that's all we are looking for at this point, and I think once we can sit around the table with somebody and talk reasonably, then we can move this forward quickly.

Okay. One last question here on your general and administrative expenses. Can we expect that the level is going to stabilize out here that you're spending? You get these projects kicking in and I realize that's going to -- you're going to spend some money to do that. Can you give us a sense as to what your expectations are there?

Our basic SG&A expenses are fairly stable. There have been some changes this year from last year. We made some discretionary hires. We've hired a Chief Operating Officer; we've beefed up our IT personnel, and so slightly more payroll involved (technical difficulty) last year. The project development expenses, as I've mentioned when I spoke earlier, are going to continue. We are doing things not only in Bali but elsewhere in Asia. We are not spending a huge sum of money there, but we are spending money there.

We've tried to give investors a little bit of insight as to how much money we're going to spend over the remainder of this year in our 10-Q --

Okay.

-- where we talk about the monies that we expect to incur over the next four quarters relative to Mexico.

So the wild card in all of this, it is going to be the project development expenses. Like I said, take a look at our Q, added a little bit of disclosure there as to what we expect to spend over the next year there. But we don't expect to grow as G&A significantly without a greater increase in revenues and gross profits. It's not like we are frivolous in the money we spend in this area. We would have the hire a couple of people. If you want to move your business to the next level, you need the appropriate IT platform to do so, and we felt the addition of the Chief Operating Officer was important to enable us to take some of the pressure off of our CEO and to provide some additional expertise in the Company. So those were strategic hires we thought were very important. Other than that we are not looking to hire a lot of new people or anything.

That sounds good, got to spend some money sometimes to make it. So very good, that's all I have for today. Thank you.

Sure, thanks a lot.

We show no further questions at this time. I would like to turn the conference back over to Mr. McTaggart and Mr. Sasnett for any closing remarks. Gentleman?

I'd just like to thank everybody for joining us on the call. I look forward to speaking with you again in November on our third-quarter call. Take care.

We thank you, gentlemen, for your time. The conference call has now concluded. We thank you all again for participating in today's conference. At this time, you may disconnect your lines. Thank you. Take care.