CWCO

Business Context and Reporting Period

Company: Consolidated Water Co. Ltd.
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2003
Business Overview: The Company produces and supplies potable water from seawater using reverse osmosis technology in the Cayman Islands, Belize, Barbados, the British Virgin Islands, and the Bahamas. Operations are segmented into Retail Water, Bulk Water, and Services (Engineering and Management).

Strategic Developments: In 2003, the Company significantly expanded its footprint through major acquisitions. Effective February 1, 2003, it acquired DesalCo Limited and Ocean Conversion (Cayman) Limited. Effective August 1, 2003, it acquired a controlling 90.9% interest in Waterfields Company Limited. These transactions tripled daily production capacity from approximately 2.9 million to 10.9 million U.S. gallons per day and expanded geographic presence to Barbados and the British Virgin Islands.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Total revenue increased 56.8% to $19.05 million, driven primarily by a 378.9% surge in Bulk Water revenue ($7.05 million) due to the consolidation of Ocean Conversion (Cayman) and Waterfields. Retail Water revenue grew modestly by 2.2%.
• Profitability: Net income rose 62.1% to $4.18 million. Gross profit margin improved slightly to 44.0%.
• Segment Shift: The composition of revenue changed significantly. In 2003, Retail Water accounted for 57%, Bulk Water for 37%, and Services for 6% of total revenue. In 2002, Retail Water was 88% and Bulk Water was 12%.
• Balance Sheet Expansion: Total assets nearly tripled to $68.6 million, reflecting the acquisition of property, plant, equipment, and intangible assets. Long-term debt increased to $16.6 million to finance these acquisitions, though cash reserves also grew substantially to $8.2 million following a secondary share offering.
• Cost Structure: Cost of sales increased 55.1%, largely due to the inclusion of operating costs from acquired entities. General and administrative expenses rose 64.1% to $4.34 million.

Guidance, Outlook, and Risks

Management Commentary & Outlook:

• Growth Strategy: The Company plans to continue developing infrastructure in the Cayman Islands, expand operations in existing markets (Belize, Bahamas, BVI, Barbados), and pursue new markets in the Caribbean basin.
• Dividends: The Board declared an interim cash dividend of $0.115 per share in February 2004, a 10% increase. The policy is to maintain a payout ratio of 50% to 60% of net income, subject to cash flow availability and loan covenants.
• Efficiency: Management expects to reduce general and administrative expenses as it assimilates recent acquisitions and anticipates lower interest costs following the repayment of bridge financing.

Risks and Contingencies:

• Contract Renewals: Key water supply agreements in the Cayman Islands, Belize, Bahamas, and Barbados may not be renewed or may be renegotiated on less favorable terms upon expiration.
• Regulatory & Political: Operations are subject to government regulation, potential expropriation, and changes in tax laws. The Company relies on tax exemptions in Belize and the Cayman Islands.
• Customer Concentration: Bulk water sales are concentrated among government utilities and large private entities. In the BVI, the water supply agreement is currently on a month-to-month basis pending new negotiations.
• Environmental & Weather: Operations are vulnerable to hurricanes and water contamination. Tourism-dependent markets (Cayman, Belize) face seasonal demand fluctuations.
• Integration Risk: Rapid expansion places strain on management resources; failure to integrate acquired assets could negatively impact results.

Investor Verification Checklist

• Acquisition Integration: Verify the timeline and cost savings associated with assimilating the administrative functions of Ocean Conversion (Cayman), Waterfields, and DesalCo.
• Debt Covenants: Review the specific terms of the $20 million Scotiabank term loan and the requirement that dividends be paid only from current cash flows.
• Belize Contract Status: Confirm the status of the three conditions precedent for the new 23-year contract with Belize Water Services Limited, specifically the extension of tax exemptions.
• BVI Agreement: Monitor negotiations for a definitive water supply agreement with the British Virgin Islands government, as the current arrangement is month-to-month.
• Tax Exemptions: Track the renewal status of import duty and tax exemptions in Belize (expiring Jan 2006) and the Cayman Islands share transfer tax exemption.