Pure Cycle Corp (PCYO) 2008 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second quarter 2008 Pure Cycle Corp earnings call. My name is Erica, and I will be your coordinator for today. At this time all participants are in listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (OPERATOR INSTRUCTIONS). I would now like to turn the presentation over to your host for today's call, Mr. Mark Harding, President. You may proceed, sir.

Thank you. I'd like to welcome you all to our second quarter six months ended February 29th, 2008, earnings call. As with all of our earnings calls, you can access -- we have a brief slide presentation that you can access through our website, so if you can link in through our website, you'll have to advance the slides yourself, so I will try to note the transition of the slides as we progress through the presentation.

What we want to do is really give you an update on some of the significant events through the first six months of the year and talk specifically about the financial performance over that six months. So with that, what we'd like to do is really start with the Safe Harbor statement which means that certain statements presented in this are purely historical information, including estimates and projections, and actual results may differ materially from what's in the presentation. The first thing we want to do is just summarize the significant events during the first six months.

There's a few key issues that we wanted to highlight. One is that, as many of you know, the company has been in development of a new technology in a process by which we can enhance the development of groundwater wells, not only groundwater wells that the company will be developing, but also groundwater wells here in the Denver area. A significant number of water providers in the area rely on the Denver basin wells. They're a water supply that either represents a component of their portfolio or the bulk of their portfolio. It is a component of the company's portfolio in addition to its renewable water supply but this technology enables us to improve the efficiencies of these wells and the ability for these wells to sustain themselves over longer periods of time and produce more water in each individual well.

I'll talk a little bit about that. We'll highlight briefly some of the issues that we had made in a conference call that we had a couple weeks ago regarding an 8-K filing that we had. On the developer, the state land board property land lease, as well as talk about where the 2008 water rates are going to be. We'll give you an analysis of our rate base comparison districts and where their water rates have gone to and subsequently where the company's 2008 tap fee rates will be.

In the first quarter of this year, we had another acquisition of some additional interest in the CAA, and that, if will you remember, is an instrument that the company incurred as a result of the agreement that we have with the state land board but dating as far back as 1996. And the company, over that period of time, has been whittling away about $40 million worth of CAA interest. The company reacquired about $4.7 million of that in October of 2007 in our first quarter, and it really leaves only one, maybe another small interest of the CAA left which is really held by the state land board. So we've been able to retire those obligations and as a result of retiring that obligation that has -- that resulted in a net loss due to the calculation of how we retired that out. The remaining amount held by third parties of the CAA is around $3.5 million, and I think most of that is held by the state land board.

If you advance to the next slide, continuing, we want to talk about the evaluation of the tap participation fee. Each period, we do an evaluation of that tap participation fee, and if you will remember, that's the amount that is booked on our balance sheet relative to an imputed amount of the liability that we would incur on paying the seller of our Arkansas River assets 10% of certain tap fees that the company receives. And so that resulted in an increased total estimated future payments from approximately $104 million to about $108 million. And this is due to the effective interest method. We impute interest expense. The imputed interest expense method decreased by approximately $183,000 to $1.1 million for the three months ended November 30th, decreased for the year ended August 31st, 2008 and will be annualized to $700,000 decrease.

So as we advance, what I'd like to do is talk a little bit about this well enhancement technology and tool. If you take a look at the slide, I'll show you what the tool looks like, this is a down hole tool that involves some technology from the oil patch industry, and what we're looking to do is provide a hydraulic frac to our water wells. And this is a technology that's used very prominently in the oil patch industry, and we've been working with the -- our partners in this. One is hydro resources, which is one of the area's largest drillers of water wells in the area, together with another private party principal, and then the service company, B J Services, which is an oil field services company that is very engaged in oil field service fracs and what we do is we put this tool downhole, we run a frac operation where we're able to put a specific size particulate sand into the formation and create what we can analogize to as a French drain in very specific areas of the formation. So what we do is concentrate our efforts to the very specific water-bearing formations of the well, be able to increase the productivity of that well.

We had our first test of this tool with a local water district, the Centennial Water District. We're able to successfully frac one of the zones that we had in there, and then took a look at what the productive capacity of that well is. There was a nearby well that gave us a very good comparison of that, and some of the early test results of that frac may have an enhancement capacity of that well as much as 80%, which is a very favorable outcome in terms of how this technology and how this will be able to improve not only the company's development of its water supplies, but also the opportunity to enhance wells in the region. So we're very excited about that. We're looking forward to additional opportunities later this year associated with other water providers and being able to bring this technology to bear to the market.

Advancing to the next slide, just talk about the 8-K filing that we had earlier in the month, it was involving some statements made by Lend Lease, which is the developer of the state land board's development parcel, the Lowry Range development parcel in a water court filing that the City of Aurora had had filed dating as far back as 2003. I really don't want to spend too much time reiterating our statement on that, if you have an interest and have not already heard our call on that you can still access that call on our website, but really what it centered around was Lend Lease weighing in on that water court case, talking about the reservoir sites that we have out of Lowry. Those are sites that the company has spent nearly 20 years adjudicating and permitting.

We've got significant investments together with the state land board. Those are assets jointly with us and the state land board that we're developing for, not only service to the state land board and Lowry range, but also service to the export water component. So we're very protective of those assets for and to the benefit of the state land board and the state fiduciaries, which are the K through 12 public education system. The rub really came into a statement that Lend Lease made not only about the usability of Aurora for those reservoirs but also a statement that they made regarding the option of getting service from another provider on the two sections that we have the exclusive right to provide service to, and they're a third party to that. We are in extensive negotiations with Lend Lease, with the state land board, also with our neighboring City of Aurora, on the opportunity that Aurora would like to see in some capacity use of that reservoir. I won't dwell too much on that as we're involved in some very detailed and advanced negotiations on all of those elements.

With that I want to talk a little bit about tap fees and give you all a continued emphasis on where tap fees in the region are, as our relationship with the state land board is defined, we're providing exclusive service to those areas that covered under our lease relationship which in the development parcel includes two of six sections. The state land board gets a royalty from us providing water service not only from tap fees but from usage fees, and one of the things that the state was concerned about when we structured our agreement, dating back to 1996, was to make sure that their royalties were based on the market rate for water rates and charges.

Our rates and charges are established by what's defined as rate-based districts for us, there are three rate-based districts, East Cherry Creek, Parker Water and Sanitation and the Town of Castle Rock, and so these are illustrative of the rates and charges that each of those districts have. If you take a look at the state mathematical average, there's a little over 21.7, and so the company is raising its rates around 21.5, so we're right in line with the rates and charges of our three rate-base districts. The usage rates will remain unchanged as we poll those rates and charges. Each time the usage rates are in line with what the rate based district are charging. Our wastewater charges will remain unchanged for 2008 as well. We still have tap fees of around $4800, $4900 for our wastewater tap, then our base monthly flat service fee of about $39.50 per single family equivalent.

Advance to the next slide. This will give you a comparative matrix of some of the other tap fee rates in the metro area. The metro area continues to increase its tap fees, and really that shows the value of water to the region and the cost of developing new water supplies and bringing those water supplies online, and what it shows is tap fees are piercing through the $20,000 level and even in some areas approaching the approaching the $25,000 threshold. So the water value, the water values in the development cost for water in the region continue to rise. And then, you know, the next matrix is really just to show you the relative cost of taps over the recent years. This is indicative of, we've had almost double digit increases of tap fees over the last five years and this year is more return to normal, getting back into maybe a historical average, which is in the 7 to 9% range for those tap fees.

We'll probably start to see a leveling off of some of the rate increases in these tap fees. I think what we saw in previous years was really trying to catch up on some of the deferred increases in tap fees that cities and municipalities have had, and a lot of the stuff has been catching up to trying to cover the cost of adding new water supplies to the region. So those tap fees are indicative of what our tap fees will be for all of our services, whether those services are on the Lowry Range or on export water services where we're serving connections off the Lowry Range, and then that also translates into what the state land board and the school trust will generate for royalty revenues associated with that.

On the next slide what we wanted to do was remind our shareholders really how our portfolio breaks down and where our capacities extend from each of the various water assets. The company has water assets in three river basins. We have assets in the Platte River Basin, we have assets in the Arkansas River Basin, and we also have assets in the Colorado River basin, and how we define our service capacity is we really extend our service capacities to those assets that are on the east side of the Continental divide, being our Denver-based assets, and our Arkansas-based assets, and those really divide themselves out into three areas where we have export water, which is our portfolio that we can take off the state land board's Lowry property and serve all areas within the Denver metropolitan area. We have that portfolio that's specifically reserved for our service to the state land board property, which accounts for about $44,000 FFE, and then we have the Arkansas River which is available for both use on the Lowry Range as well as export opportunities, and then other areas including into the markets that extend in the Arkansas River Basin for capacities there. So 180,000 -- roughly 180,000 FFE capacity is really divided up into those three segments.

As we do with all our calls, what we continue to do is provide you with an overview of the local housing statistics, and so what I want to do is give you an overview of how housing is in Colorado, as well as the general economic conditions of the state of Colorado. The Colorado housing market does show signs of slowing similar to the national trend as evidenced by housing starts. If you take a look at our annualized housing starts for 2007 the housing starts are down about 35, 36%, the front range was down 36%, the Denver metropolitan area just slightly less. Then if you drill down in a more specific county in Arapahoe County, which is where our particular water originates and our service areas are, there's a decrease of about 40%. Housing prices fell about 2% during 2007, so I think that's slightly better than the national trend. Foreclosures are still a significant issue here in Colorado. Colorado ranks fifth nationally in terms of foreclosures, and foreclosures are a component of the inventory of supply.

One of the other statistics that we continue to monitor is where the income occupancy rates are, and if you take a look at the apartment rental vacancy rates those continue to fall which really shows you where the pent up demand for the next wave of buy side is. The vacancy rates are at 6.1% in December of 2007 compared to 7% at 2006, so you really have a very strong rental market right now. Really what you'll see is that market will expand and contract depending on financing and housing availability for the region.

Advancing to the next slide, the general economy in Colorado and Denver continues to outperform the national trends. If you take a look at the job growth and unemployment here, February, year over year, 2007 to 2008, statewide, we created about 74,000 jobs the metro area about 46,000 jobs. Unemployment rates for the region are below the national average. Denver, the metropolitan unemployment rate is 4.7%, Colorado stands at 4.4 with a national unemployment rate of about 5, a little over 5, 5.1.

Okay that being really a summary of an overview of the statistics and significant events of the first six months what I want to do is give you an overview of the financial results of the first six months. So that first slide will really talk about water deliveries for the first six months, water deliveries for 2008 are in line with the same deliveries that we had in 2007. So in terms of the six months ended, We have a very similar hydrologic water year for 2006 and 2008, so those are going to be in line. Taking a look at the base fee revenues, our revenues are up slightly about 11% year over year, and that's going to be attributable to the time of use of water. We have an increasing block scale, the more water you use, the more water -- the more incremental cost per unit of delivery the customer will see, and it's a conservation measure for us to encourage conservation and encourage a water con shut framework for our customers. That's really typical for most western -- certainly here in Denver and all of most western water providers.

Advancing to the next slide, total revenues are up a little bit over year-over-year revenues, about 9%. Increases attributable to -- a slight increase in our water usage fees from 2007. Taking a look at the next slide, the net loss is up about 3%, and keep in mind that the net loss here significant portion of our loss is this imputed interest for the tap participation fees. We'll talk a little bit about our G&A expenses on the next slide but our net loss of $3.5 million includes $2.1 million of imputed interest expense for the first six months and also the buy-out of the CAA interest around the 275 for the buy-out of the CAA interest and the loss incurred with that. Non-cash depreciation charges associated with the Arkansas river acquisition, about $190,000, compared to $182,000 for the prior year. If you look specifically at the G&A expenses, the significant increases were up about 8% year-over-year, and it's mainly attributable to increased consulting fees relate to the Lowry project, and working with the state land board, Lend Lease, the City of Aurora -- in developing service and opportunities for not only the two sections but the companies competing for service to the other four sections.

The G&A also includes about $170,000 of stock-based compensation expense pursuant to FAS 123R. Taking a look at our current assets, we have a burn rate of about $1.4 million. We have about $300,000 annualized revenue, so a net burn of about $1.1 million a year. The company has about $6.3 million in cash, so we find ourselves in a very solid financial position moving forward into the next fiscal year as well as the following fiscal years. Taking a look at the overall investments in water and water systems, those are in line with prior years. $103 million total investments in water and water systems. Moving on to total assets, the company's total assets are in line, $110 million compared to $111 million for fiscal 2007.

Finally, taking a look at total equity, total equity is in line with 2007 as well. The increase in fiscal 2007 was mainly due to the equity offering from late summer of 2007 and then some stock option exercises offset by some net losses. So those are going to be sort of the fiscal performance, the six months year end are very much in line with the six months that we saw in previous quarters. We find ourselves in a very good cash position and are looking forward to continuing investments in water service capabilities and moving forward with opportunities as it relates to the Lowry Range.

With that what I'd like to do is open it up to any questions that you might have. See if there's anything I can answer on either the company's overall performance or the six months or anything specifically about the financial statistics. Erica, are you still with us on the call?

Yes, sir, I'm here. (OPERATOR INSTRUCTIONS). Your first question comes from the line of Robert Kirkpatrick. You may proceed.

Good afternoon, Mark.

Hi, Rob. How are you?

Fine, thanks. Could you maybe expand upon where things stand with Lend Lease in the intervening period since you have originally filed your 8-K and give us an update?

I will. I'll be a little bit circumspect in that because we are engaged in some very detailed negotiations with Lend Lease and the state land board as well as the City of Aurora. We have met with Lend Lease and talked about the motives they had for filing the amicus. I think they are looking to keep their options open, I think they were working through due diligence information about how we would go about providing service to not only the two sections, but in the event that they had an interest in working with us on the six sections, how we would do that so we've got ongoing dialogue with that, ongoing engineering associated with that where we're providing them information about not only how we're developing the system, but the assurances that we have in how the -- how each of the individual components come online, talking about the assets that we have, how we integrate the various assets between our renewable water supplies, non renewable ground water supplies, the reservoirs, how the reservoirs integrate within the overall equation. So it really is continuing to advance the issues.

Lend lease is looking at a very complicated development project, and water is a very important element of that in its component, so we are certainly competing for the business on the four sections and also being very specific about how we he will handle the two sections. We have a process that we'll go through, probably an extended process. They have transitioned from what they defined as an investigation, due diligence phase, with the project that I think through some extensions terminated in mid-March, and they moved into the next phase of that, they had the election to -- if they didn't like what they saw in the investigation phase that they could move on, either in terminating their involvement with the project or move forward with the project. They did elect to move forward to the next phase. The next phase carries them through I think the first part of next year, and then they have some extensions that they can carry forward. If they don't like what they see in that phase of the project, then they have another exit into it, then they would move into the development phase.

All of this is going to be an important component, how we handle service out there, how the storage components are an important aspect of that, how we can view a regional participation with the neighboring water provider City of Aurora and the opportunities that there may be for joint storage out there, and enhancement to their system and maybe enhancement to our system. I don't know if that's going to give you enough detail. I'd like to be more detailed about how these discussions are going and where we are specifically in terms of the negotiations, but I'll probably have to reserve that until we're farther along.

I understand. Conceptually, is this something that the discussions take the balance of the year? They take until next year? Help me just ballpark at the broadest level when we would be able to have some conclusion one way or the other.

That's a great question. Honestly, I'm not exactly sure. Their objectives in the predevelopment phase are to really evaluate the entitlement process, and probably one of the most important parts of the entitlement process is water service, and so how they're going to deal with water service in the combined project -- if they looked at divided into two sections and have service from one direction on four sections from service from us on the two sections or have service from one provider from us on all six sections is going, are they looking to have this entitlement through the jurisdiction it's in, Arapahoe County, or whether they would look for an annexation to the City of Aurora, all of those are going to be part of this evaluation, and I'm not exactly sure whether that's resolved this year, whether that's revolved in the next three months or whether that's resolved in the next two years. They can take it -- their next extension would come in January of '09 and I think they have the ability to extend that for as long as another year. The entitlement, or the predevelopment phase, could last for the next nine months, it could last for the next 19 months.

Great. Thank you so much.

You bet.

(OPERATOR INSTRUCTIONS). Sir, you have no further questions at this time.

Okay. Again, I'd like to thank you all for your participation and your continued support. If you do have something that comes up later that you would -- thought of after the call, please feel free to give me a call, and otherwise I look forward to speaking with you again in another three months. Thank you all.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect, and have a wonderful day.