H2o America Q3 FY2025 Earnings Call

Good day, and thank you for standing by. Welcome to the H2O America Third Quarter Financial Results Call. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Ann Kelly, Chief Financial Officer and Treasurer. Please go ahead.

Thank you, operator. Welcome to the third quarter 2025 financial results conference call for H2O America. I will be presenting today with Andrew Walters, Chief Executive Officer; and Bruce Hauk, President and Chief Operating Officer. For those who would like to follow along, slides accompanying our remarks are available on our website at h2o-america.com. Before we begin today, I would like to remind you that this presentation and related materials posted on our website may contain forward-looking statements. These statements are based on estimates and assumptions made by the company in light of its experience, historical trends, current conditions and expected future results as well as other factors that the company believes are appropriate under the circumstances. Many factors could cause the company's actual results and performance to differ materially from those expressed or implied by the forward-looking statements. For a description of some of the factors that could cause actual results to be different from statements in this presentation, we refer you to the financial results press release and to our most recent Forms 10-K, 10-Q, and 8-K filed with the Securities and Exchange Commission, copies of which may be obtained on our website. All forward-looking statements are made as of today, and H2O America disclaims any duty to update or revise such statements. You will have an opportunity to ask questions at the end of the presentation. This webcast is being recorded, and an archive of the webcast will be available until January 19, 2026. You can access the press release and the webcast at H2O America's website. In addition, some of the information discussed today includes the non-GAAP financial measures of adjusted net income and adjusted diluted earnings per share that have not been calculated in accordance with the generally accepted accounting principles in the United States or GAAP. These non-GAAP financial measures should be considered as a supplement to the financial information prepared on a GAAP basis rather than an alternative to the respective GAAP financial measures. Reconciliations of these non-GAAP financial measures to the most directly comparable GAAP financial measures are presented in the table in the appendix of our presentation. I will now turn the call over to Andrew.

Thank you, Ann. Welcome, everyone, and thank you for joining us. Before we discuss our third quarter 2025 progress, I would like to share that earlier this month, we welcomed another accomplished leader to H2O America. Jonathan Reeder is our new Senior Director of Treasury and Investor Relations. Many of you know Jonathan from his time as an equity research analyst at Wells Fargo Securities, where he covered the utility sector, including leading the team’s water utility coverage. Jonathan has a deep understanding of the industry, with over two decades of experience covering utility stocks, making him an excellent addition to our team. He shares our commitment to culture, service, and investor outreach, and we look forward to introducing him to many of you in the future. I am pleased to share that in the third quarter of 2025, we delivered strong financial results, including net income of $1.27 per share on an adjusted or non-GAAP basis, an 8% increase over the third quarter of 2024. Our performance reflects our execution of our growth strategy, which focuses on necessary water infrastructure investments across our national systems while engaging with key local stakeholders and using a consensus-building process to recover regulatory costs in a timely manner while maintaining customer affordability. Some highlights from the third quarter include the approval of the application for Connecticut Water's Infrastructure and Conservation Adjustment as filed, while Texas Water submitted its third System Improvement Charge just after the quarter ended. I am also happy to share that we are ahead of the CapEx plan we guided earlier in 2025. We have invested $358 million in water and wastewater utility infrastructure across all four states through September 30th, which is 74% of our upwardly revised $486 million budget. Finally, on the M&A front, we announced two Texas deals. First was the transformational Quadvest deal at the start of the third quarter, followed by the tuck-in acquisition of Cibolo Valley wastewater treatment plant and related collection system in Comal County, Texas, announced in late August. Bruce will provide updates on the Quadvest deal approval process and year-to-date connection growth as well as more details on the Cibolo Valley wastewater treatment plant acquisition later in the call. Overall, it's been a strong year so far, both strategically and financially with more to come. Now, I will turn it over to Ann to walk through our financial results.

Thanks, Andrew. Yesterday, after the market closed, we released our third quarter operating results. As Andrew mentioned, we are pleased to report diluted EPS and adjusted diluted EPS of $1.27 for the quarter. On a year-to-date basis, we earned adjusted EPS of $2.53 per share, a 14% increase over the 9 months ended September 2024. With these strong results, we are narrowing our 2025 guidance range of adjusted diluted earnings per share to $2.95 to $3. This represents the upper half of our original $2.90 to $3 range and demonstrates our team's commitment to delivering on our financial targets. We are also reaffirming H2O America's 5% to 7% EPS CAGR through 2029 with the continued expectation that we will deliver on the top half of the range. This excludes any impact from the pending Quadvest acquisition, which we expect to be accretive in 2028 and to our long-term growth rate. We are very pleased with our strong performance in 2025. As we look ahead, we remain focused on disciplined execution to meet our annual and long-term growth targets. The factors contributing to the 8% increase in third-quarter earnings per share are shown on Slide 9. At a high level, increased revenue from rates and usage drove a $0.42 increase, while other income, which primarily reflects higher AFUDC equity and pension non-service credit added $0.13. These were partially offset by higher water production expense of $0.07, other operating expense of $0.18, a $0.10 increase in the number of shares outstanding and an $0.11 delta due to the absence of the benefit from the third quarter 2024 tax accounting method change. Turning to the next slide, I will provide more detail on each of these areas. Our revenues increased 7% in the third quarter. Rate increases in the general rate case in California, along with increases from our infrastructure mechanisms in Connecticut, Maine, and Texas contributed $14.6 million to the revenue increase. $6.6 million is attributable to higher pass-through water costs from our wholesale suppliers as these costs continue to increase each year. Higher customer usage added another $700,000 of increased usage in Connecticut and Texas, more than offset a reduction in California. And these revenue increases were partially offset by a reduction in regulatory mechanisms and other factors. Water production expenses increased 3% in the quarter and were primarily driven by an increase in the average per unit cost for purchased water and groundwater extraction of $5.1 million that are largely offset in revenue and a $1.1 million increase in cost due to the mix as there was a decrease in the availability of the lower-cost surface water. These increases were partially offset by lower production volume of $2.7 million as well as a $900,000 impact from regulatory adjustments. Turning to Slide 12. For the quarter, we reported an increase of 9% in other operating expenses. General and administrative expenses increased $5.6 million, primarily driven by pension costs, salaries and wages, as well as other inflationary increases. Depreciation and amortization for new utility plant placed in service increased $1.3 million, and we experienced a small increase in property taxes and other non-income taxes. These increases were partially offset by lower maintenance costs in the quarter. The factors impacting the $0.32 earnings per share increase for the year-to-date period are shown on Slide 13. At a high level, increased revenue from general rate cases and infrastructure recovery mechanisms drove a revenue increase of $1.48. This includes the increase in pass-through water supply costs. The revenue increase was partially offset by higher water production expenses of $0.54. Operating expenses increased $0.46, primarily driven by higher A&G expenses as well as increased customer credit losses. As a reminder, during the second quarter of 2024, we received a one-time benefit from California's arrearage payment plan. The remaining drivers related to the share increase, taxes, and other are consistent with those in the quarterly variance discussed earlier. Breakdowns of revenue, water production expense, and other operating expense for the first 9 months of 2025 are available in the appendix of our slide presentation. On the financing side, through the first 9 months, we took advantage of investor interest and raised approximately $108 million of equity through our ATM program. At the end of the quarter, we had $126 million drawn on our $370 million bank lines of credit, leaving $244 million available for short-term financing of utility plant additions and operating activities. For the first 9 months of 2025, the average borrowing rate for our line of credit advances has been approximately 5.42%, compared to 6.53% in the prior year. As for long-term debt, Texas Water issued a 30-year promissory note in September for a principal amount of $40 million at a fixed interest rate of 6.68%. And earlier today, Connecticut Water issued $60 million of 30-year debt at a fixed rate of 6.08%. With respect to taxes, our consolidated income tax rate was 14% on a year-to-date basis compared to 10% in the same period of 2024. This difference in rate was primarily due to higher pretax income in 2025 and the tax accounting method change in 2024. And with that, I will turn the call over to Bruce to provide updates on key state regulatory developments in the Quadvest and Cibolo Valley acquisitions.

Thank you, Ann. I am pleased to share that our constructive engagement with regulators continues to create value for our customers and the company. At Connecticut Water, our request for a $3.1 million revenue increase in WICA surcharge for capital invested in pipeline replacement was approved as submitted and on time with new rates effective October 1st. Progress is being made in Maine Water's rate unification proceeding. In September, we filed a rate design proposal that would bring our 10 different districts into a single tariff. The rate design proposal is revenue-neutral. But if approved, it would feature our first affordability tariff in May. We expect a decision on rate unification in the first quarter of 2026. After the quarter closed, Texas Water filed for a $5.1 million increase in the system improvement charge for completed water and wastewater projects. We expect a decision on the application in the first half of 2026. As alluded to earlier, we have increased our planned 2025 capital spend to $486 million from $473 million. The increase primarily reflects the momentum of our successful advanced metering infrastructure deployment in California and our plans to accelerate the pace of implementation of the project. We will provide a holistic refresh of our 2026 and beyond CapEx budget in our year-end 2025 update in February when we roll forward our 5-year plan. We'll now turn to an update on our planned Texas acquisitions. The Quadvest deal approval process remains in the early stages. We expect to receive the fair market valuation determination, which will be the average of the three PUCT appointed appraiser valuations in December. Shortly after receipt, we will file the formal deal approval, known as the sales transfer merger application with the PUCT, and we expect to close the deal by mid-2026. While the FMV reports are not publicly disclosed, in the interest of transparency and to help the investment community more accurately model the deal's impact, we plan to disclose the determined FMV early next year. Meanwhile, we continue to see robust connection growth in the Quadvest system, which now has more than 52,400 active connections as of September 30, 2025. This represents an 11.5% increase since the end of 2024. And as Quadvest converts its under contract and pending development pipeline into active connections, it is worth noting that the pool of future connections continues to be replenished. Of course, future connection growth will vary based on a number of conditions. So this is no guarantee of future growth rates. However, these results are in line with our range of expectations, and we believe solid growth will continue in the greater Houston area, which is the second fastest-growing metropolitan area in the United States. Our other pending Texas deal, which we announced in late August is the acquisition of the Cibolo Valley wastewater treatment plant. The acquisition would bring approximately 1,500 active connections and the opportunity for more than 250 additional ones that are under contract and pending construction. The acquisition is in the heart of our existing service territory, and we already provide water service, wastewater billing, and customer service to these customers on a contract basis. We have filed with the PUCT to use fair market value for the Cibolo deal, and we expect this transaction to close in the fourth quarter of 2026. Between Quadvest and Cibolo Valley, we're excited about our long-term growth potential in Texas. With that, I will turn it back over to Andrew.

Thank you, Bruce. Just a couple of weeks ago, Newsweek notified us that H2O America has been selected for the second consecutive year as one of America's greenest companies. We are one of only two water utilities selected for this prestigious recognition. Only companies that meet the European Union stringent sustainability criteria considered to be the most advanced globally were eligible. This recognition reflects the passion and dedication of our people, who take our responsibility to our customers and the environment very seriously. This passion is also reflected in our 2024 sustainability report, which has been posted to our website. Among the highlights, we achieved a 43% reduction in Scope 1 and 2 emissions from the 2019 baseline, which is strong progress toward our 2030 goal of 50%. We increased solar generation by 73%, with eight new solar projects, including the first in Texas, owning and solar generation lowered our operating cost for customers and provides a return for investors. Finally, we also achieved a world-class customer satisfaction rate of 85.2% and expanded our flexible payment plans and rate assistance programs. Last, but certainly not least, Governor Lamont appointed four new commissioners to the Connecticut Public Utility Regulatory Authority. We extend a warm welcome to Thomas Wiehl, Janice Beecher, Holly Cheeseman, and Everett Smith on their appointments. We look forward to working with the new commissioners to address the challenges facing water utilities, including the need to balance affordability with Connecticut's extensive investment requirements to replace aging infrastructure and treat emerging contaminants, all while providing high-quality water and reliable service. In closing, the third quarter was a strong quarter for H2O America, and we have even more to look forward to in the home stretch of 2025. We remain focused on driving shareholder and customer value through a disciplined approach to infrastructure investment and executing on our financial goals, advancing the Quadvest and Cibolo Valley acquisitions, deepening our strong partnerships with local stakeholders, and our unrelenting pursuit of operational excellence and identifying creative and sustainable solutions to serve generations to come while maintaining a focus on affordability. And now I will turn the call back over to the operator for questions.

Our first question comes from Angie Storozynski of Seaport.

Jonathan, congratulations. I'm eager to collaborate with you moving forward. That's quite a shift. Let's begin with Texas. Regarding the Quadvest deal, you mentioned that disclosures on the FMV will be provided only in January or early in the first quarter. Why is there such a long wait? Secondly, following the American Water Essential merger yesterday, you are gaining a significant player in the Texas water market. Does that impact your perspective on growth in that market? Lastly, we are anticipating a PURA decision in Connecticut on the acquisition of Aquarion. I'm curious if you still have interest in this asset if the commission decides against the current sale process.

Right. So first, why don't you take us through the Quadvest and FMV and then we'll go from there to Aquarion.

Sure. Yes, thanks, Angie, for your question. And as it relates to the FMV process, I think we're still on the same timeline that we disclosed when we first announced the deal. So the timeline for those appraisals to come in is in December and then shortly thereafter, we'll file the STM. So that's why on schedule as expected. So it's the soonest that we'll have the information, we can disclose it.

Okay. And so now you have absolutely no sense, right? Because the appraisals are still working, right? So they haven't basically submitted anything.

Correct. In order for the appraisers to complete their work, they need the resident engineering firm to perform the RC and LD, which is the most extensive process in creating the cost approach. So the net income and the market approach are pretty easy in terms of the process, but the most extensive process is the cost approach, which requires a full addressing of the assets by the engineer. And that's the process that we're in, and that's not yet been completed.

Okay. And then American Water acquiring a Texas utility?

Well, certainly, there's a lot of interest in Texas by a lot of our peers and competitors. But the beautiful thing about Texas, it's a big state, and there's a lot of opportunity in Texas. And our biggest opportunity is something that we're very focused on and keenly addressing, which is the Quadvest acquisition. We're excited about that, and that's our focus. Competition has always been in our industry, and we've shown that we can be a formidable competitor, and we'll continue to do deals that make sense for us to come our way as long as they meet our investment criteria in the settings that we've put in forth in place for us to move forward with in terms of tuck-ins or other opportunistic opportunities that come along.

I think it's important to note that our company can achieve its growth forecast without relying on acquisitions. This is intentional, as we want to avoid using growth simply as a means to meet our projections. This strategy positions us strongly. Additionally, Essential is already a strong competitor on its own. When combined with America, they do become even more formidable, but there are limits to the financial viability of any acquisition. If a company can offer a higher price, that's their right, but we will not go beyond our stated goals regarding accretion or jeopardize our balance sheet. These factors remain unchanged for us, and I believe that the merger will ultimately benefit the industry and both companies involved. It will also help improve affordability for their customers as investments in their systems will not fully burden the customers. This approach works for all water companies. Do you have any questions about these two or just Aquarion?

No, just Aquarion. Actually, Aquarion in both acquisitions and the financing of them in relation to your stock's performance. It seems like your stock is not really reacting to the strong results you're reporting. Some of it could be the Aquarion overhang. But could you discuss the stock price and how you see accretion from both the Quadvest deal and any capacity you have for additional transactions?

Yes, that's a great question. First of all, regarding Aquarion, it does make strategic sense for us and our customers. However, we are fully focused on the Quadvest acquisition and do not have additional capacity in the straight equity market at this time. If we were to pursue a deal—though I want to clarify that no one has indicated that it won't happen—if it does not occur, Eversource would need to determine whether they want to sell it or if they have other options for raising equity or using the proceeds. That decision is entirely up to them. For us, it raises the question of how we would proceed. We have consistently mentioned three avenues for raising equity: straight equity, hybrid/debt markets, and partner equity. Removing the option for straight equity leaves us considering hybrid debt and partner equity. However, this does not alter our accretion goals or our commitment to balance sheet protection. Therefore, nothing changes on our end. In fact, this situation allows us to implement the same strategies as Essential and American, which focus on reducing costs in the system and facilitating investments in areas where customers won’t bear the full cost of their bills. Overall, it is a solid model, provided that all parties remain reasonable in their approaches.

Okay. Understood. One last question for Ann. You may have already addressed this, but I'm curious about your narrowed guidance and year-to-date results that suggest very low earnings in the fourth quarter. Could you clarify what factors are influencing those fourth-quarter expectations to reach the midpoint of the narrowed guidance?

Sure, Angie, good question. There are a number of factors that are driving the $0.27 to $0.32 reduction in EPS quarter-over-quarter. For first, we have some timing of gross margin and the regulatory adjustments. I should also ask you to keep in mind that the Connecticut Water rate case went into effect in July of 2024, so we experienced that additional favorability year-over-year in the first half of this year, but we're not experiencing that currently because it was already in rates last year. Second, we expect continuation of higher expense items that we've been reporting on as well as some additional operating expenses to advance our strategic priorities. And lastly, we expect to see the continued trend of higher year-over-year depreciation, interest, taxes and also some dilution from additional shares.

Okay. What is this $0.20 of year-to-date other income? I think it should be around $0.20, right?

Let me take a look.

Oh, I'm sorry, it's $0.12 or...

$0.13. One of the main contributors is AFUDC, particularly due to our significant investments in Texas, where we have longer construction cycles. As a result, these investments are accruing AFUDC for an extended duration.

Our next question comes from Ian Rapp of Bank of America.

Echo Angie's comments on adding Jonathan, obviously, a really good pickup for the team, looking forward to working with him again, congrats there. And then I think you hit on most of them, but I think maybe just to clarify, have you refreshed or rolled forward the EPS guidance through '29 kind of at the high end of 5% to 7%. But I think if I heard you correctly, you're also going to refresh the full sort of CapEx schedule on 4Q. Would you say at this point that the EPS guidance fully bakes expectations for that CapEx refresh, or are you planning to sort of refresh that EPS guidance view on fourth quarter as well?

You're asking to confirm whether you're inquiring about the long-term guidance and if the CapEx refresh will also lead to an update on that long-term guidance.

Correct. Yes. I see in the slides that you have the 5% to 7% anchored to the high end through 2029 in the slides. I just wanted to check if that was fully baked for expectations for the CapEx refresh?

Look, I think our refresh on the long-term growth is going to be impacted by two factors. One will be our CapEx, but it will also be the view on where we'll come out from a Quadvest acquisition, right? So we will look at those areas as to what our future long-term growth rate is. And until we come out with that, then that's when everything will be refreshed all at once. It's not going to be done incrementally.

Got it. That makes sense. And then just maybe two quick ones on the fair market value process. So it sounds like that's kind of the primary date for determining financing needs to finance this acquisition? A, is that correct? And then b, does the fair market value process, or it's kind of structured, allow you to fully capture these customer connection growth rates that you're highlighting, or would that be something that would maybe be more reflected in a future rate case?

Yes. So let me take the first one, Bruce. We've agreed to the $540 million. So that is not going to determine the financing cost of the transaction. The only thing that we will address or adjust is depending on the markets, right? It has nothing to do with FMV. We will address how much debt or how much equity we will do in the transaction. So that's the only thing that's going to be kind of adjusted, which is going to be market dependent. As it relates to the FMV, I'm going to have Bruce address the idea of kind of these new customers that are coming on, what the cutoff date are for those customers, and how that will be reflected in FMV today versus FMV in the future.

Yes. Thank you, Andrew. As it relates to the FMV, we've got all three appraisers signed up to the same timeline in terms of the valuation of the assets. And so that's a terminus date of effective July 1, 2026, I believe. So that's that cutoff date in terms of the valuation of assets. So it's not really connections that make that number. It's really the actual assets that have been invested in and are available for valuation. So that's really the determining value or determining point of the fair market value. So it will be all those assets, including construction work in progress to that point.

And if I can just follow up on what Andrew said. I mean it's absolutely correct. I mean the amount of equity that we will issue in connection with the transaction is not dependent on the fair market value what we alluded to was that we did feel that it was important for investors to understand the fair market value. So that they could adequately model the transaction going forward. And we think that will be helpful for us in the equity raise going forward. And so when we think about timing, we're getting the FMV at the end of this year; we'll then be in blackout for year-end. We'll have to work to pull together the necessary offering documentation in that same timeframe. As Bruce mentioned, we'll be filing the STM or the sales transfer merger. So once that deemed administratively complete, that's when the clock starts ticking on that approval process. So once we have a better eye towards closing the transaction, that's when we'll look to that equity raise.

I'm showing no further questions at this time. I'd like to turn it back over to Andrew Walters for closing remarks.

Thank you, operator.

This concludes today's conference call. Thank you for participating, and you may now disconnect.