Pure Cycle Corporation — Form 10-Q Summary
Reporting period: First quarter of fiscal 2020, the three months ended November 30, 2019; comparative period is the three months ended November 30, 2018. Financial statements are unaudited. Pure Cycle operates wholesale water and wastewater services and Sky Ranch land development in Colorado.
Financial performance and position
| Metric | Quarter ended Nov. 30, 2019 | Prior-year quarter |
|---|---|---|
| Revenue | $10.46 million | $3.07 million |
| Gross profit | $1.87 million | $1.25 million |
| Operating income | $0.99 million | $0.52 million |
| Net income | $5.76 million | $0.63 million |
| Diluted earnings per share | $0.24 | $0.03 |
| Cash from operating activities | $14.72 million | $(5.73) million |
Revenue mix: Lot sales were $8.54 million, water and wastewater tap fees were $1.67 million, and wholesale water and wastewater services generated $1.92 million. The company recorded $6.28 million of related-party construction-cost reimbursement as other income; this materially lifted pretax and net income and is not recurring operating revenue.
Margins and activity: The filing reports a 6% gross margin on lot sales, unchanged from the prior-year quarter, before the separate reimbursement income. Water-delivery gross margin fell to negative 80% from 75%, and wastewater gross margin to negative 27% from 70%. Water delivered fell to 16.0 million gallons from 114.5 million, largely reflecting reduced hydraulic-fracturing demand. The filing does not provide a single comparable overall gross-margin percentage.
Liquidity and obligations: At November 30, 2019, cash and cash equivalents were $22.07 million, working capital was $20.4 million, total assets were $88.93 million, and total liabilities were $8.33 million. Management said working capital was sufficient for the next 12 months. The balance sheet reports $329,762 of participating-interest liabilities; a further approximately $651,000 contingent portion is off balance sheet. The filing does not identify conventional interest-bearing corporate borrowings.
Material changes and notable items
- Revenue increased mainly from Sky Ranch lot sales, which rose to $8.54 million from $1.38 million, and tap fees, which increased to $1.67 million from $0.25 million.
- On November 19, 2019, the Sky Ranch Community Authority Board (CAB) issued approximately $13.2 million of bonds and used about $10.5 million of net proceeds to partially reimburse Pure Cycle for public-improvement advances. About $4.2 million reduced inventory costs; approximately $6.3 million was recognized as other income. Management said the reimbursement raises the expected land-development margin to approximately 27%.
- Operating cash flow turned positive, principally due to the reimbursement, inventory movements, collections, and higher income. Cash and cash equivalents increased from $4.48 million at August 31, 2019 to $22.07 million at November 30, 2019.
- Oil-and-gas water demand weakened sharply: the company attributed the decline partly to Colorado regulatory changes and primarily to its largest industrial customer shutting down operations in late 2019. Oil-and-gas royalties increased to $269,500 from $31,400, reflecting four additional producing wells.
- The company adopted lease accounting Topic 842 in September 2019, recording a right-of-use asset and lease liability. The reported November 30 lease liability was $242,036.
Outlook, risks and controls
- No formal earnings or revenue guidance is provided. At quarter-end, open contracts totaled $13.74 million, primarily for 506 Sky Ranch lots; the company expects to recognize about 84% over the next 12 months. Management was working to deliver the remaining 135 lots from the initial phase ahead of original deadlines, by fiscal year-end 2020.
- Pure Cycle expected to incur about $6.0 million more in public-improvement construction costs and anticipated approximately $18.5 million in additional reimbursements. Reimbursement depends on future CAB or district funding and bond capacity; advances not repaid by December 31, 2058 are discharged under the agreement.
- Management anticipated placing the Sky Ranch water reclamation facility in service during fiscal Q2 2020. It also expected approximately $3.0 million of WISE-related investment in fiscal 2020 and $4 million over fiscal 2021–2024.
- Results are exposed to housing and development timing, water demand, oil-and-gas activity, construction costs, regulatory changes, weather, and the ability of the CAB and districts to reimburse advances. Revenue and customer concentration is significant: three customers represented all land-development revenue in the quarter.
- Disclosure controls and procedures were deemed ineffective. Management identified material weaknesses involving related-party expense accruals and preparation of the income-tax provision, and said remediation was underway, with completion anticipated before fiscal year-end 2020.
- The filing reported no litigation or contingencies with a reasonably possible material loss as of November 30, 2019.
Important facts for investors to verify
- How much of the quarter’s net income and operating cash flow reflects the CAB reimbursement, and whether subsequent reimbursements meet expectations.
- Whether industrial water demand recovers after the major customer shutdown, and the resulting effects on water-service margins and cash generation.
- Progress on delivery and sale of the remaining Sky Ranch lots, realization of contracted revenue, and actual development costs versus estimates.
- The recoverability and timing of CAB-related advances, accrued interest, and project-management fees, including the conditional nature of reimbursement.
- Whether management remediates the disclosed material weaknesses and improves the effectiveness of disclosure controls.