Earnings Call Transcript - PCYO Q3 2025

Operator, Operator

Good morning, everyone, and thank you for joining Pure Cycle Corporation's third-quarter earnings call. We will begin with a presentation from our CEO, Mark Harding. Before we enter the Q&A session, we kindly ask everyone to remain muted. Once we reach the Q&A portion, we will ensure that microphones are open, but please stay muted until it is your turn. Now, I will hand the presentation over to our CEO, Mark Harding.

Mark W. Harding, CEO

Thank you. Good morning, and welcome to our third-quarter earnings call. Joining me today is our CFO Marc Spezialy and our Controller Cyrena Finnegan, who will assist with any tough questions. We have a presentation deck available, which you can view on our website by clicking the appropriate tab on the landing page. I’ll go through the slides during the presentation and will point out slide transitions for those listening to the replay so you can follow along. Let's begin with the first slide to cover the necessary legal disclaimers regarding forward-looking statements as defined by the Securities and Exchange Commission. I want to emphasize our leadership team, which possesses extensive experience across all our business segments. Our consistent team is instrumental in delivering the company's results, and I appreciate their collaboration along with our Board, who have provided exceptional guidance and expertise. Now, let’s dive into the financials. For the third quarter, we generated $5 million in revenue, yielding strong gross profits of about $3.2 million with a 63% margin. Notably, our mineral estate has performed exceptionally well this year, with additional wells coming online. This contributed over $1 million in quarterly results and close to $6 million year-to-date. In terms of net income, we reported over $2 million this quarter, equating to approximately $0.09 per share, and year-to-date, we’ve seen about $7 million, which translates to $0.29 earnings per share for fiscal year 2025. However, our trending revenues are slightly down from previous quarters primarily due to the weighted deliveries for lots in filing 6 with our largest homebuilder, D.R. Horton. They currently have an inventory of about 70 lots compared to their usual 45, affecting our results. This situation doesn’t signify a downturn in overall performance but is a unique situation for this filing. Despite this, we remain on track to deliver these lots by the end of our fiscal year. Our gross profit for this quarter stands at around $3.2 million, which provides a consistent outlook moving forward. As we approach the fourth quarter, we are continuing our work in progress which will convert to realized revenue as the builders complete their projects. Given the seasonal nature of our business in Colorado, most of our phases conclude in the fourth quarter, as winter makes concrete and asphalt work challenging. We anticipate finishing the work and recognizing revenue from builders closing once we complete this. Thus far, we show a cumulative net income of $7 million and $0.29 earnings per share, with approximately 220 lots nearing completion. We expect to finalize the remaining lots by the end of this month and early August as we approach our August 31 year-end. Let's take a closer look. I'll discuss each of our segments one by one, starting with the water utility segment. This is primarily driven by three revenue sources. First, we continue to see annual customer growth, adding new recurring customers who receive monthly bills for our water and wastewater services. We also have a group of industrial water customers, which this year is somewhat lower compared to previous years, as we anticipated. This year has been focused on permitting for most of our operators, particularly our largest operator who is working on permitting nearly 200 wells at the Lowry Ranch for future development. This involves a significant amount of permitting, infrastructure, and facility preparation, which has been a major focus this fiscal year. We expect to see more normalization by fiscal 2026. Additionally, tap fees are performing strongly this year, attributed to our Phase 2B delivery, which included about 230 lots last year. Builders have started construction on those lots, and we've seen around 120 homes under development from that total. When builders need permits, they pull those tap fees, reflecting a lag between lot delivery and tap fee revenue. Regarding the oil and gas segment, 2025 was expected to be weaker due to the concentration of permitting at the Lowry Ranch, but we anticipate a return to normal levels in 2026 and beyond. We generate around $280,000 to $300,000 per well, with nearly 180 to 200 wells planned on the Lowry property. It may take time to fully drill all these wells, but it will be beneficial for us moving forward. Our relationship with the oil and gas sector remains strong, as we continue to invest in our water facilities while enabling oil and gas operators to manage their large water needs without impacting our other customers. This partnership approach ensures that resource management benefits all parties involved. Take a look at our land development segment. We will have all the lots for Phase 2C delivered in the fourth quarter, so you'll see some catch-up on that, especially with about 900 lots in Phase 2. We completed phase 2A in 2023, phase 2B in 2024, and phase 2C in 2025. We are working on both phases 2D and 2C simultaneously. For phase 2D, we have completed the earthwork and grading, and we are about three-quarters through delivering the wet utilities. We plan to start on the road, curb, and gutter package this fall. I want to emphasize that, particularly in challenging markets, having real-time deliveries without excessive inventory is crucial for our business model and especially for public builders. Their project estimates are closely examined based on how quickly they can turn lots and invest in them. We aim to stay aligned with that to avoid holding on to too much inventory and to facilitate timely home deliveries. You'll notice this in our project phasing, which I will discuss further later. Regarding single-family rentals, we have noticed a slowdown in growing our inventory of new units due to updated building code regulations in Arapahoe County from last summer. These new electrical standards extended the permitting process significantly, from what typically takes two weeks to as much as six months. However, most of our builder partners have now navigated through the process. They start by getting their master plans approved, which outline the type of home to be built without specifying a lot. Once the master plans are approved, the individual building permits are processed smoothly. We expect to gain more momentum in our single-family rentals in the first quarter of next year and continuing through 2026. We are still on track for our goal of approximately 100 single-family units following Phase 2. I'm going to provide some additional insights now that we've reviewed the quarter and will discuss our market outlook. We operate across three business segments: water, wastewater, and land development. In the water and wastewater segment, we have a valuable portfolio of water rights in Colorado that can support approximately 60,000 single-family equivalents. As indicated by our inventory levels, we are just beginning to tap into this potential, particularly with the development of Sky Ranch and other opportunities in our service areas. We also see promising prospects for servicing the Lowry Ranch area when it develops. Our land development segment, which is our primary area of activity, allows us to oversee projects from start to finish. This includes managing utilities and developing horizontal infrastructure such as roads, curbs, and gutters. In our third segment, we focus on single-family rentals, constructing homes and maintaining them within our portfolio for rental purposes. We're adapting to changing market dynamics regarding home buying versus renting, integrating our services to cater to both segments effectively. In our water segment, we hold around $65 million in total water assets, which includes $32 million in water rights and $24 million in water and wastewater systems comprising pumps, wells, treatment facilities, and storage. We have invested $9 million in two wastewater systems that enable us to recycle 100% of the water processed, ensuring it meets regulatory standards for reuse. Our dual distribution system at Sky Ranch allows us to supply treated water to irrigate parks and open spaces, exemplifying our commitment to responsible water resource management in water-scarce regions. Our water utility can produce about 3,000 acre-feet annually. Although we're currently experiencing lower industrial water sales due to anticipated gaps, we are well-positioned to meet the demands of our oil and gas clients. The unallocated water we possess generates two revenue streams. Our production capacity supports year-over-year revenue growth, and our water portfolio allows us to offer connections for up to 60,000 units, for which we charge a rising connection fee that currently stands at around $40,000. This translates into a potential revenue of approximately $2.3 billion to $2.4 billion from connections. With about $1 billion invested to expand our systems, we are only utilizing a small portion of our available capacity. So that kind of gives you a flavor for those of you that are new to the company of really where the outlook for the company is. I do want to highlight one new development. I know some of you have seen a number of these things, but if you take a look at the mapping to the right of this, that pink shaded area, we call it light red, but it looks more pink. That's really our service area. That's the Lowry Ranch. Above that in the blue is the Sky Ranch property; a dark line is I-70. About four miles north of that is the Denver International Airport. So it gives you kind of a proximity of where we're at in the Denver metropolitan area. We've shown a number of times kind of this graphic where development has encroached this Lowry Range property. There was that one outfall or an out parcel on the Lowry Range, down in that Southeast corner. It was a half section of ground that was privately owned, and that property is now under development. And so what you're really seeing is just kind of a surrounding of our service area. It just highlights the location that the company's assets are in, in the Denver metropolitan area. As those of you who have been to Denver know, we effectively live on an ocean. We can only grow in one direction. We can only grow to the east. We have a natural barrier of the Front Range, the mountains on our west side. And so, we find ourselves in the right part of town, not only with the land interest that we own, but also our water assets and our service areas. So that's been a new development for those of you that are joining us on our investor tour next week; you'll get a chance to see some of this firsthand, but it's an exciting development where we continue to see the Denver metropolitan area grow out and beyond our service areas. Taking a little bit about our land development segment. We do inventory land interests, and we'll take land interests from raw land, add our water resources to it and then be able to get the zoning and go horizontal with that zoning so that we develop finished lots for our homebuilders. In that segment, the interesting thing is, we're becoming more of a unicorn in that segment because there are fewer and fewer developers that are actually doing the horizontal work. I mean, they're doing the hard work of actually contracting for the grading, contracting for building the wet utilities, ultimately street, curbs, gutters, all that to a finished lot. Really makes us not only an entity that does that, but also an entity that's doing that in concert with how the public homebuilders are looking for that metric to be done. What we're seeing is a very strong partnership and a strong relationship with our homebuilder partners in markets that tend to be cyclical. They’re appreciative of us handling that portion of this work element, us being able to deliver those lots on a as a real-time basis as the market continues; the market demands that stuff. What we see is we can dial up and dial down on those as the market continues to flex in that space. So that's been very, I guess, satisfying to see how our business model really is capitalizing on that partnership and not really imposing hard decisions on builders where they may or may not be able to move forward given the level of sales or given the level of inventory that they might be running with. If you want to highlight Phase 2, so there's a little bit of an update on that. Phase 1, as we've talked about, fully complete. Phase 2, we've delivered all those lots, and we've got about 115 homes up and sold. Phase 3, Phase 2C there, about 228 lots and you can see most of the roads, curbs, and gutters are finished. So we're just punching out some of those items on Phase 2C for delivery by the end of the month. Phase 2D, we're making continued progress on that, and we're able to dial that up and dial that down depending on how sales and inventory continue to go, but we have that product that's available, and we don't have a tremendous amount of infrastructure that is new to that side just because we're continuing to expand. Most of that major arterial roads and water and wastewater and stormwater systems are already developed. We do have that ability to continue to add those. We've got new builders in Phase 2D that want those lots as quickly as we can deliver them, and we got returning builders in Phase 2D that would like to work through a little bit of their inventory, and we have the ability to do both of those. So very, very real time in terms of our ability to deliver land development and finished lots. We are thrilled to announce the groundbreaking of our high school. As many of you know, our goal for this project was to create a full K-12 campus so that all children in the community can access education. The school is conveniently located, allowing families to walk there, and our K-8 has already opened. We have a great partnership with National Heritage Academy from Michigan, who has been an excellent collaborator. This groundbreaking marks the beginning of the high school's construction. Over the next year, they will start building the structure, with the aim of having classrooms ready for the school year of 2026-2027. This is an exciting development and aligns with our ongoing development model, which is particularly appealing to new families given that they will have access to a complete K-12 campus. Taking a little bit on some of the things that we've been talking about for those. This is an illustration on how the one project that we have, our main development project, Sky Ranch builds out. When you take a look at the inventory for residential lots as well as commercial lots. We do have quite a bit of commercial on this as well. We got about 3,200 single-family equivalent zone for the property, but we also have about 2 million square feet of commercial. We do have an interchange that's at the site. We're in the final stages of finishing a permit for removing that interchange and making it larger. We have not started any of the commercial development yet. Some of that's going to be predicated on having a little bit more of the residential development. Some of that's going to be predicated on finishing the interchange. But taking a look at kind of the revenues on that when you take a look at what we've done to date on the residential, we're about 22% done, so still plenty of pedal left on the residential side. Really nothing started on the commercial. When you take a look at kind of the sold in that category, that generates something close to about $620 million of income for the company. So still very early on continuing to really put up some very good margins on that because of how we're delivering that, that we really don't have a large financing cost incurred with that. We have good relationships with our building partners to continue to develop that. Taking a look at the single-family rental market, why we like that segment, it's a very high margin opportunity for us. We maintain the equity in both the water systems as well as the land development costs on that. So when we've got all those horizontal improvements, we're really holding that value, which can be as much as $150,000 per lot. We're partnering with our homebuilder partners who are building their products on each individual phase and building that product for us. It's a good partnership for them because they have already sold the home. They have those margins built in. They also sometimes can rent back that facility to use that home as a model home for folks. It's been a very good model for us and a good model for our homebuilder partners and so we'll continue to add to that portfolio, taking a look at kind of how we want to build those numbers. We really have only 14 units started. We've got 5 under construction, with another 14 that are close to final permits on that in Phase 2B, and then we have probably 35, 38 more units coming on in 2C. You're going to see a strong acceleration in that segment over the next 18 months. If you take a look at kind of how that growth is going to go. From really a modest start on Phase 1 with 4 homes continuing to add those numbers in each of those phases, up to what we're going to have is 98 homes from Phase 2D. You're going to see a lot more traction and a lot more velocity in that single-family rental portfolio over the next 18 months or so. Liquidity remains strong. I want to emphasize our management of invested capital. We have a solid balance sheet and a high level of liquidity, which is crucial in unstable markets. This allows us to invest in our systems and ensure we have adequate inventory of finished lots for our homebuilders. Additionally, in segments of the market that are weakening, there are opportunities for growth as we explore how to deploy our capital. I've previously discussed our priorities regarding capital allocation, and we are focused on using that liquidity to enhance our business segments by delivering finished lots and upgrading water and wastewater systems to meet the needs of our major customers in the oil and gas sector. We also look for chances to invest in more water rights and, importantly, to acquire additional land. I know many of you are keeping tabs on this, and while I need to be cautious about what I share publicly, we are actively seeking opportunities with landowners in our region to provide water services. Maintaining our liquidity is essential for continued business growth, and we are beginning to see the benefits of our careful capital strategy as we work to execute our business model effectively. We move on to the outlook, which is likely the most intriguing part for everyone. The primary concern in the housing market is consumer confidence; specifically, whether potential homebuyers feel secure enough to make a purchase. When examining consumer confidence, there's an opportunity for us in market segmentation. We stand out as one of the few entry-level master plan communities available, partnering with our homebuilders to provide the necessary infrastructure. The national homebuilders we collaborate with have expressed appreciation for our approach, as only a few can offer both the horizontal infrastructure and the capacity to target entry-level buyers. Mortgage rates are always a topic of interest for homebuyers, but they haven't been as significant of a concern lately compared to previous years. The shift from a low-interest rate environment to a more normalized one has taken place, which means homebuyers are less focused on timing the market based on slight fluctuations in mortgage rates. This situation may encourage those on the sidelines to enter the market, making mortgage rates less of a hurdle than historically. Affordability remains a challenge everywhere, including Colorado, as homeownership costs continue to rise. Our market segmentation offers a potential opportunity in this context. We are also seeing a slight increase in inventory, primarily due to the market slowdown. In the Denver area, entry-level inventory is notably low, almost depleted, and we are among the few offering this. It's worth noting that our phase delivery strategy ensures that neither we nor our homebuilders are burdened with excess inventory. Regarding our phases, we have metrics for Phase 2A, B, C, and D, with Phase 2E expected to come online soon. Currently, lots are being delivered in real-time, with most being vertical within the year. However, for Phase 2B, there has been a slowdown, with about half as many lots sold as in 2A, attributed to a weakening market and delays in the new building permit process which caught homebuilders off guard. For Phase 2C, the delivery of lots is scheduled for the end of this fiscal year, around August. In Phase 2D, we are expecting deliveries of lots this year as well. We can manage the timing of these deliveries effectively. Some homebuilders who secured their permits early sold their entire inventory as they constructed on speculation. Others have achieved full sales even before starting their builds, which is quite rare. For example, a builder with duplexes successfully sold all lots prior to breaking ground, demonstrating demand in this price-sensitive market. We continue to observe strong performance in the entry-level segment, which includes paired products, townhomes, and smaller to larger single-family homes, consistently showcasing a diverse market under the sub-$500k pricing tier. We're seeing very attractive results, mostly just because there is no inventory of product at this price point. The next few slides are kind of carryover slides from our year-end presentation. Really, what we were trying to do is give investors a look at how we look at the company and how we're managing our capital structure, both for the current year, for the short-term outlook being the 3 to 5 years, where we're really strong in investing in our inventory of lots and then the longer term, where how does Sky Ranch build out and how are we going to look at additional service areas, whether that's going to be the Lowry Ranch service area or other acquisition opportunities. So just kind of highlights that in terms of those areas. On the water utility side, and then taking a look at the land development side, some of the key drivers in that, I won't highlight those as I know we've highlighted that in our last three calls. Then also taking a look at it from single-family rentals, we look to get to that close to 100 homes over that period of time. Then translating that into really what we think that outlook does for the company. This showed a little bit of trending analysis of how we were building that from 2023 to 2024 results and then 2025 results and kind of shows how we're positioning ourselves on that. We are looking to deliver pretty close, I'd say, within a short part of what that 2025 guidance was looking like; that will depend on kind of the homebuilders coming and particularly closing on the last balance of those lots on the end of August, and then what it looks like in that kind of short-term area where we can continue to build out some of that residential. We're going to complete that interchange and then take a look at some of the entry of some of the commercial in there. So that kind of gives you a little bit of a projection of how that translates into the balance sheet in terms of revenues as well as earnings per share, and then how that drives shareholder value. Continuing to kind of highlight those in terms of the water revenue, this is the recurring revenue side of it and then the single-family rental revenues and then asset growth through that showing that build out of Sky Ranch. One of the secrets to the company continues to be the hidden value, the stored value in these highly appreciated assets that the company has been able to acquire over the years, both in terms of the water assets as well as the land assets that we have. Whether we're serving land interest, where we're the developer or whether we're serving land interest where others are the developer or in our service area on the Lowry property, it continues to build value and really deliver results for housing in the Denver market. We continue to repurchase shares, although our activity was a bit lighter in Q3 as we focused on conserving cash to support our business model. Nonetheless, we are still actively engaged in share repurchases on a programmatic basis. I'd also like to remind everyone that if you're registered, we will be hosting a fiscal tour where we will showcase some of our ongoing projects and the current market conditions in Colorado, along with our water assets. Following that, around noon, we will have a virtual Q&A session, which many have registered for. This will be a great opportunity for a more informal discussion regarding our company's inventories and market outlook. The event is scheduled for July 16, and if you haven't registered yet, please do so to ensure you receive the necessary links. Now, I'll open the floor for some questions to provide further insights.

Operator, Operator

If there are any questions, we will take them now.

Elliot Knight, Analyst

Mark, I've got a couple of questions. Pure Cycle has a couple of reservoir sites. And is anything going on with them? Has any development started on them?

Mark W. Harding, CEO

No, not really. They certainly were a component of what we continue to do in our water utility. We've acquired some water rights up in Weld County that we're looking to develop in concert with our surface reservoirs. There are some regional opportunities with the surface reservoirs. I would say those are mostly confined to kind of partnership opportunities that we may or may not have with partners that we have with the South Metro Water Supply Authority. As many of you who really drill down into the company's assets, we have a water supply called the WISE water supply, and that’s in concert with about 13 different water providers in the South Metropolitan area. There are groups and subgroups of that look at kind of shared infrastructure, where we're looking at shared infrastructure on delivering water rights that we've acquired over the last 5 to 7 years to bring that down into the reservoirs and perhaps make capacity available for other opportunities in that. Those are going to be long-range assets. So I'd say those are going to be more build out assets that really will be consistent with developing up to that 60,000 residential unit capacity.

Elliot Knight, Analyst

Okay. And then on Slide 20, where you said it was at least looking at the map as I saw it, the lower left-hand corner, and you said this is a new parcel that is now being developed. Where will the water be gotten obtained for that? Where is the owner going to be paying for water?

Mark W. Harding, CEO

Great question, and I should have mentioned that. That property became part of the city of Aurora around 20 years ago, so it has been included in that utility service area. The water will be sourced from the city of Aurora. It does surround the Lowry property, which consists of beautiful homes that are not entry-level. These properties present excellent opportunities as they sit elevated and will overlook the Aurora Reservoir, which is owned by the city of Aurora and one of our future reservoirs. It’s an exciting project to commence, and it is within the city of Aurora.

Elliot Knight, Analyst

All right. And actually, one other question. In the 10-K that was filed, I noticed the footnote that there's something over 1,000 acre-feet of water that I guess is you're trying to have permitted, and it was turned down, but you're negotiating with people. What's there? How much water is involved? And when do you think that might be resolved?

Mark W. Harding, CEO

We were applying for a new water right, but developing water resources is becoming increasingly difficult. This new right would have allowed us to extract additional water from Box Elder Creek, which runs through the Lowry Range, and combine it with supplies we have in the Weld County area. The process was quite complex, and we ultimately did not succeed in that effort. However, we had three other claims that were under suspension, and we've been engaging with the groups opposing our plans for Box Elder to seek a resolution. I believe there is a pathway for us and them to find mutually beneficial solutions, and we are waiting to see how it unfolds.

Elliot Knight, Analyst

Okay. It's a work in progress?

Mark W. Harding, CEO

It is a work in progress.

Operator, Operator

Just a reminder, if you have a question, go ahead and hit the mic button to unmute yourself.

Mark W. Harding, CEO

It seems like we have an early morning presentation. If no one else wants to share thoughts on specific matters, I know several people have signed up for the Investor Day. We will have more chances for discussion as you all reflect on our earnings call and presentation, which may lead to more questions next week. We have plenty of opportunities for input, so feel free to reach out to me directly. It’s important to us that everyone has the chance to understand our company. We are in a strong position with valuable assets and are investing to maximize them. As I've mentioned before, our business model excels in delivering a complex product. We are investing significant amounts to deliver our services and ensuring that our operations can meet demand. A lot of our infrastructure is set up, including water and wastewater systems, allowing us to adjust for customers in the oil and gas sector, which can be variable in activity year by year. Our adaptability with significant clients is quite distinctive, and we are well-positioned to expand our capacity without overextending ourselves. We are looking for opportunities to wisely invest our capital to grow the company further. This is a great example of the flexibility we have in managing our valuable long-term assets. If you have any questions or need to discuss anything, please feel free to reach out or join our fireside chat next week. Before we wrap up today’s call, I wish you all a healthy and enjoyable summer. Enjoy yourselves, and I look forward to seeing those of you who signed up next week. Take care, and we'll speak soon.