Q3 2024 Spruce Power Holding Corp Earnings Call
Speaker Change: Ladies and gentlemen, this is your operator speaking. Today's conference call will begin momentarily. You will be placed back on music hold until then. Thank you for your patience.
Speaker Change: Again, ladies and gentlemen, this is your operator speaking. Today's conference call will begin momentarily. You will be placed back on music hold until then. Thank you for your patience.
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John: Thank you for standing by. My name is John and I will be your conference operator for today. At this time, I would like to welcome everyone to the Spruce Power 3rd Quarter 2024 Earnings Conference Call. All lines have been placed on mute to prevent any background noise.
Speaker Change: After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star followed by the number 1 on your telephone keypad. If you would like to withdraw your question, press star 1 again. Thank you. I would now like to turn the call over to Bronson Fleig, Head of Investor Relations. Please go ahead.
Bronson Fleig: Good afternoon and welcome to Spruce Power's conference call to discuss results for the third quarter of 2024. With me today are Chris Hayes, our Chief Executive Officer, and Sarah Wells, our Chief Financial Officer.
Bronson Fleig: Our call this afternoon will include statements that speak to the company's expectations, outlook, and predictions of the future, which are considered forward-looking statements.
Bronson Fleig: These forward-looking statements are subject to risk and uncertainties, many of which are beyond our control, which may cause actual results to differ materially from those expressed in or implied by these statements.
Bronson Fleig: We are not obliged to revise or update any forward-looking statements except as may be required by law. Please refer to our disclosures regarding risk factors and forward-looking statements in today's earnings release and other SEC filings. A copy of our press release has been posted to the investor relations page of our website for reference.
Bronson Fleig: The non-GAAP financial measures discussed in this call are reconciled to the U.S. GAAP equivalent and can be found in the press release that we issued this afternoon.
Speaker Change: With that, I will turn the call over to our CEO. Chris, go ahead.
Chris Hayes: Thank you, Bronson, and good afternoon to everyone. Our top priority is to grow our distributed energy platform through the acquisition of operating residential solar assets and by expanding our capital light, third-party service offerings, Bruce Pro.
Chris Hayes: On both fronts, our commercial teams are poised to convert some longstanding opportunities in our growth pipeline. We are focused on executing on these opportunities, which will enable us to further scale our owner-operator platform and drive an inflection in free cash flow generation.
Chris Hayes: I'll make more detailed remarks on our pipeline and outlook shortly. First, I want to briefly address third quarter results and operations. Later, Sarah will dive deeper into financial results.
Chris Hayes: Our core business delivered solid results supported by the predictable monthly cash flows from over 75,000 solar assets and contracts.
Chris Hayes: Third quarter revenue was $21.4 million and operating EBITDA was $17.7 million.
Chris Hayes: Ability and predictability of financial results is often measured by a metric known as annual recurring revenue or ARR.
Chris Hayes: Similarly, here at Spruce, management uses an internal measure called business cash inflows, which accounts for top-line recurring revenue, as well as other sources of consistent cash inflows.
that do not flow through GAP P&L.
Chris Hayes: Our results this quarter affirm our previously referenced run rate of between 120 to 130 million of annual run rate business cash inflows.
Chris Hayes: Our balance sheet is also rock-solid, with total cash of $150 million at quarter end, unchanged from the second quarter period. Our unrestricted cash per share as of quarter end was $6.11.
Chris Hayes: Our receivables are also rock-solid, with great collections performance due to the nature of our customers.
Chris Hayes: Most of our customers own their homes and are early adopters of solar, with an average system age of approximately 10 years. Our customers are highly incented to pay us because rooftop solar offers compelling economic value.
Chris Hayes: Inflation in retail utility rates across our geographies means that our customers save meaningfully through the consumption of power generated from our solar systems sitting on their rooftops.
Chris Hayes: Collections are also influenced by customer satisfaction, an intense area of focus for us.
Chris Hayes: Spruce spent many years building an integrated solar servicing organization which we believe is best in class.
Chris Hayes: Underscoring our view, one of our project finance lenders recently stated, and I quote,
Spruce Servicing is the top servicer in residential solar.
Chris Hayes: Our review is also supported by continuous improvement in our customer satisfaction scores, what we refer to as CSAT.
Chris Hayes: During the quarter, our CSAT score was 81% versus 75% a year ago, a significant gain.
Chris Hayes: I want to thank all SPRUCE employees for their dedication in making SPRUCE a leader in customer service in our industry.
Now let's turn to an update on near-term growth initiatives.
Chris Hayes: For context, the Spruce business model is unique in our sector.
Chris Hayes: combining predictable high-margin cash flow from our portfolio rooftops with less predictable but large step function growth through disciplined acquisitions.
Our stable cash flow enables that discipline.
Chris Hayes: Unlike peers who need to support a high fixed cost origination machine, we are never forced to make a bad acquisition for the sake of growth.
Chris Hayes: During the third quarter, we signed a non-binding letter of intent to acquire a portfolio of close to 10,000 home solar systems, all with long-term contracts.
Chris Hayes: The counterparty is a highly credible operator in consumer energy markets.
Chris Hayes: We expect to close in the fourth quarter of 2024. If completed, this deal should generate impressive cash-on-cash returns for years to come.
Chris Hayes: We expect to fund the equity portion of the acquisition with cash on hand, with leverage coming from non-recourse senior debt at attractive pricing.
Chris Hayes: Beyond this information, we can't comment on any more details. And always keep in mind, nothing is certain until the ink is dry. However, we can say that we are excited about the growth and free cash flow prospects of this deal.
Chris Hayes: Extending our M&A strategy, we are evaluating what we call programmatic offtake.
Chris Hayes: Under this approach, Spruce would acquire solar lease and PPA contracts from installers earlier in asset life, right at the time when the solar system is installed and granted permission to operate.
Chris Hayes: This opportunity is exciting because we see a substantial need for long-term capital providers that can not only own but also service solar lease and PPA contracts for decades.
Chris Hayes: Looking more broadly at the M&A environment, our deal team continues to evaluate the pipeline of seasoned solar portfolios in the secondary market.
Chris Hayes: Since deals are in various stages of evaluation, we cannot offer any more comments on definitive timelines and conversion probabilities.
Chris Hayes: On top of this M&A activity, we are now ramping up
Chris Hayes: Predictable revenue as we serve those customers over a multi-year contract.
Chris Hayes: We're off to a strong start by cultivating a pipeline of servicing opportunities.
Speaker Change: After quarter end, Bruce entered a memorandum of understanding with a large residential solar installer to provide servicing solutions to a portfolio with thousands of residential solar customers.
Speaker Change: The framework in place establishes visibility to recurring revenue through a multi-year servicing agreement.
We expect to execute the agreement in the fourth quarter.
Speaker Change: We're excited about this milestone for Spruce Pro. The agreement is a testament to the broad capabilities of our servicing team and is a significant step in unlocking value from our investment in the platform.
Speaker Change: which until now has managed in large part only our own assets and a few third-party owned portfolios.
Speaker Change: Our commercial teams remain active in developing additional servicing opportunities and indications of interest are accelerating.
Strong fundamental factors underpins Spruce Pro.
Speaker Change: such as the increased popularity of lease and PPA financing versus loans, new market entrance with unsophisticated or lack of integrated servicing capabilities, and the permanent exit of some legacy residential solar firms.
Speaker Change: We believe Spruce is poised to capture a growing number of third-party servicing customers in the near term.
Now let's discuss our disciplined capital allocation strategy.
Speaker Change: Our robust balance sheet enables us to pursue these growth opportunities. As I mentioned earlier, at quarter end, Spruce had $114 million in unrestricted cash.
Speaker Change: We intend to deploy some unrestricted cash over the near term for M&A, such as the imminent $10,000 rooftop deal.
which offers an attractive yield on our equity investments.
Speaker Change: Keep in mind that we are a levered buyer of assets.
Speaker Change: So our cash balance mostly influences the equity portion of future M&A.
Our buying power far exceeds that $114 million balance.
Speaker Change: Our model is evolving from our private ownership model, which prioritized raising maximum leverage, to instead focus on more equity value, thus yielding more cash flow to Spruce.
Speaker Change: Because our business is running close to cash flow break even today, the net cash flow from any new acquisition should flow mostly to the bottom line.
Speaker Change: We are acutely focused on driving this cash flow inflection point. And this is the reason that I often state, Spruce is really just at the starting blocks.
Speaker Change: Looking at our long-term capital allocation strategy, we envision a growing portfolio of long-duration,
Speaker Change: cash flow generating assets that maximize our flexibility to create value. We do this through more asset acquisitions, debt reduction, and potentially other shareholder return initiatives such as share buyback.
Speaker Change: Our flexibility enables us to pursue any of those options at any time, depending on which offers the most attractive return.
Speaker Change: In assessing our current growth opportunity set, capital position, and current trading levels of our common shares, we have decided to resume common stock repurchase activity.
which may occur as early as this quarter.
Speaker Change: We expect to be opportunistic under our repurchase program, though notably, we will aim to balance repurchases with retaining adequate dry powder to also execute on what we view as a strong growth opportunity set for spruce.
Speaker Change: The amount, time, manner, and price of repurchases will be determined in our discretion and may affect repurchases through open market transactions, privately negotiated transactions,
Rule 10b-5-1 trading plans and other means.
Speaker Change: In closing, we have our heads down, focused on execution and profitably growing our platform through M&A and aggressive expansion of our service and organization into the third-party market.
Speaker Change: Our company is naturally poised to be the number one owner-operator and servicer of residential solar assets. With that, I am going to call to Sarah to address second quarter financials.
Sarah Wells: Thanks Chris. I'll provide more details related to our third quarter 2024 financial results as well as our business outlook for the remainder of the year.
Sarah Wells: Third quarter revenue was $21.4 million compared to $23.3 million in the prior year period, with the decrease primarily attributable to lower SREC revenues and higher performance guarantee payments.
Sarah Wells: Second quarter core OPEX, which we define as SG&A and portfolio O&M excluding depreciation, was $17.4 million in total as compared to $15.9 million for the prior year period. Breaking this out.
Sarah Wells: Portfolio O&M expense moderately increased to $3.9 million in the third quarter from $3.5 million in the prior year period. The increase is tied to higher non-routine servicing costs such as expenses tied to hardware replacements.
Sarah Wells: SG&A has since increased to $13.5 million in the third quarter from $12.4 million in the prior year period. For the quarter, SG&A was negatively impacted by an increase in legal costs incurred in connection with legal settlements and other ongoing legal proceedings.
These costs amounted to $1.4 million during the quarter.
Sarah Wells: Spruce generated a gap net loss attributable to stockholders of $53.5 million.
Sarah Wells: As a reminder, we consider operating EBITDA as a key measure in evaluating the company's financial performance, which is defined as adjusted EBITDA plus several items that represent material cash inflows from our ongoing business strategy.
Sarah Wells: Operating EBITDA was $17.7 million for the third quarter versus $19.8 million in the prior year period. Please see our press release filed prior to today's call for a reconciliation of this non-GAAP measure.
Sarah Wells: At the end of the third quarter, total cash, inclusive of unrestricted cash and restricted cash on our balance sheet, was approximately $150 million, unchanged sequentially.
Sarah Wells: Our unrestricted cash balance at quarter end was approximately $114 million versus $117 million at the end of the second quarter. The sequential decline in unrestricted cash is largely a result of higher O&M and legal costs tied to legal settlements and ongoing legal proceedings.
Sarah Wells: The total principal balance of long-term debt was $631 million at the end of the third quarter, with a blended interest rate of 5.9%, including the impact of hedge arrangements.
Sarah Wells: All of Spruce's debt is non-recourse and serviced by customer collections of our various portfolio companies.
Sarah Wells: At quarter end, all our floating rate debt instruments were materially hedged with interest rate swaps extending into the early 2030s.
Sarah Wells: These hedge arrangements had a net mark-to-market of positive $19 million at quarter end.
Sarah Wells: Before getting into our outlook, I want to address one housekeeping item. For the third quarter, Spruce recorded a non-cash Goodwill impairment charge of approximately $29 million.
Sarah Wells: Due to the continuous decline in our stock price and market capitalization, we wrote down the goodwill balance historically reflected in our consolidated balance sheet from $29 million to $0 during the quarter.
Sarah Wells: The goodwill previously reflected on our consolidated balance sheet entirely arose following Legacy Spruce's acquisition by Legacy XL Fleet in September 2022.
Sarah Wells: and was determined by a new basis recognition event due to change of control under which the estimated fair value of the net acquired assets of Legacy Spruce resulted in the recognition of approximately $29 million of goodwill.
Sarah Wells: Last, I'll move to full year guidance, which can be found on slide 20 of our investor relations deck.
Sarah Wells: Based on financial results to date and current business trends and other factors, Spruce is adjusting its guidance range for the full year 2024.
Sarah Wells: We now expect at the midpoint adjusted operating EBITDA to be $60 million and adjusted free cash flow to be negative $10 million below the low ends of our previously provided ranges.
Sarah Wells: Our portfolio of over 75,000 home solar assets and contracts continues to generate strong cash flows in line with our expectations.
Sarah Wells: Though both higher-than-expected and unanticipated expense items through the first three quarters of the year have emerged.
Sarah Wells: The low end of our previous operating EBITDA range for the full year 2024 was 68 million, which included no acquisition activity, and that has been the case thus far in 2024.
Sarah Wells: So, I will bridge the primary drivers of the negative variance from that $68 million figure to $60 million, which represents the midpoint of our new full year 2024 operating EBITDA range of $57 million to $62 million.
Sarah Wells: The negative variance can be attributed to two primary areas. The first is tied to O&M, or operations and maintenance expense.
Sarah Wells: Non-routine operations and maintenance expenditures have trended higher thus far in 2024 than we originally anticipated.
Sarah Wells: These are costs tied to rolling trucks to repair or replace hardware. For perspective, these expenses have represented close to a $5 million headwind through the first three quarters of the year versus initial budget.
Sarah Wells: We believe this outside spend is somewhat transitory and related to the timing of failure rates of equipment versus underwritten expectations.
Sarah Wells: We also have a heightened focus in our asset management organization on efficiently deploying capital to maintain our fleet of solar systems.
Sarah Wells: The second area is corporate level expenses. This does include costs tied to our CEO transition. It also includes costs tied to other ongoing legal proceedings. Together, these corporate level expenses have represented a headwind of about $3 million through the first three quarters of the year versus initial budget.
Speaker Change: Last, please note that our updated 2024 Outlook does not include any impact of acquisition activity for the remainder of the year, including the non-binding LOI that Chris mentioned to acquire approximately 10,000 customers.
Speaker Change: This concludes our prepared remarks. Operator, please open the line for questions.
Speaker Change: Thank you. We will now begin our question-and-answer session. As a reminder to everyone, if you have dialed in and would like to ask a question, please press star followed by the number 1 on your telephone keypad. If you would like to withdraw your question, simply press star 1 again.
Speaker Change: Our first question comes from the line of Peter Gastreich with Watertower Research. Please go ahead.
Peter Gastreich: Thank you very much for the presentation and congratulations to Chris and team on your announced acquisition. And also great to see the commitment to your share buyback program coming in.
Speaker Change: So I think I'll start there actually with the question about the acquisition. It looks like a good place to start. It looks like this will grow your rooftop solar assets and contracts by more than 10%.
Speaker Change: Can you share any perspective details about the financial impact of the portfolio? For example, how should we think about the profitability of this asset when compared to your existing portfolio? Thank you.
Speaker Change: Yeah, thanks for the question, Peter. We're super excited about this opportunity. If we complete it, it lets us build on our high-margin cash flow base and obviously realize synergies within our servicing organization as we continue to scale our platform.
Speaker Change: We can't comment on specific deal economics, so you should think about...
Speaker Change: any prospective acquisition activity to align with the framework we've historically publicly provided and I'll just lastly share that we're aggressively working to close the acquisition as quickly and efficiently as possible and We'll provide incremental details
at the appropriate juncture, assuming a successful close.
Speaker Change: Okay, that's great. Thank you. My next question is about Spruce Pro. It's great to see that you signed an MOU recently. Are you able to expand a little bit on that opportunity? And related to that, how would you define success for Spruce Pro entering 2025? So, you know, for example, when would you expect to land your first customers and generate revenue, and what type of customers are you looking at?
Speaker Change: Sure, thanks for the question. So, as you can imagine, we're really excited.
Speaker Change: about signing this MOU. It's an excellent proof point for Spruce Pro.
Speaker Change: In line with our past commentary, this is a capitolite endeavor, and we're levering existing investment to date in our servicing platform, so that's people, technology, and it allows us to provide advanced servicing solutions to a third party, which this should prove, assuming we inked the deal.
Speaker Change: We can't offer a lot of specifics right now on the scope and economic impact of SPRUCE.
Speaker Change: despite the MOUs in place, but we are working towards an executed service agreement in the fourth quarter. As to the second part of your question with respect to 2025 and success points, so as earlier mentioned, we are not issuing guidance.
Speaker Change: for any top-line revenue projections for Spruce Pro in 2025. However, I would define success based on our quality of pipeline, and I suggest there's a high probability we'd close the deal or two in 2025, and that's how I'd look at success.
Speaker Change: Okay, thanks. It's very clear. Let me just ask one more question here before getting back in the queue. So I've got a few more.
Speaker Change: But, you know, I'm sure you're asked this a lot, especially recently, but I'd really like to know your views here.
Speaker Change: We're past the election now. I'm just curious what your thoughts are about how this would impact Spruce. How durable would you view your business model in the face of any risk of changes to policy when compared to your industry peers?
Speaker Change: Well, so it's a great question. I'll tell you I am thrilled that we are a third-party owner of solar and I would say this to you while we can't predict the future obviously
Speaker Change: All we need to be a successful business is to continue having new solar put on rooftops and the economics continue to remain strong.
Speaker Change: And so long as that happens, we will have new acquisition opportunities and we are not sort of subject to the whims of Washington, D.C. and whatnot. So.
Speaker Change: It is quite probable both on already installed solar and presumably much more going in.
Speaker Change: There's a very active M&A pipeline for us. And then, of course, for Spruce Pro, there's a huge market out there that we can service. So we think that it's as good an environment as it was two weeks ago and remain super bullish.
Speaker Change: Okay, that's great to hear. I guess I'll get back in the queue unless there's any other questions from other analysts.
Speaker Change: Again, if you would like to ask a question, please press star followed by the number one on your telephone keypad.
Speaker Change: And we have another question from Mr. Peter Gastrike with Watertower Research. Please go ahead.
Great, thank you very much.
Speaker Change: I've got more of a macro question here, so, you know, there's been a lot of structural macro drivers out there, you know, for power demand, including AI.
data centers, crypto now, and so forth.
Speaker Change: These are all driving, you know, very strong power demand growth outlook and
Speaker Change: There is some uncertainty out there emerging in terms of whether utility-scale capacity can keep up with that.
Speaker Change: I'm just curious, you know, how do you see these factors affecting
Speaker Change: grid electricity rates, and what would that mean for the future rooftop solar?
Speaker Change: Well, look, again, it's super hard to predict the future, but if you forced me to do so, I would say not solely on commodity prices, but more on the wire and line business.
Speaker Change: All of the inflation associated with that and demand growth with AI and all this other stuff. I would imagine that utility rates are going to continue rising through time.
Speaker Change: Ultimately, that's a great back win for us. About 50% of our portfolio are power purchase agreements and so rising utility rates.
both make solar.
Speaker Change: more economically compelling and also increased many of the underlying contracts. So we are excited about that trend for our business.
Speaker Change: Okay, thank you. I've got two more questions if I may.
Speaker Change: The first one is, would it be possible to provide any guidance as far as where we stand so far in the fourth quarter? You know, for example, if we look at last year, the fourth quarter was a bit lower than expected, and I recall that was due to some weather related issues.
Speaker Change: We'd also be interested to the extent you can provide any additional commentary on O&M
and legal items.
Hi Peter, this is Sarah. Thanks for the question.
Speaker Change: I was just going to say, Peter, that we have given updated guidance in the script and so we're just going to stick with that for now.
Peter Gastreich: Okay, okay, got it, thank you. So just a final question here, a bit more about your stock. So, you know, we see that it's now, you know, trading below cash.
Speaker Change: Based on your conversations with investors, can you make any comments on perceived sentiments, or maybe what do you think are some of the key things that the market's missing here?
Speaker Change: Yeah, it's a great question. I mean look, I would say this, you heard mentioned in my commentary earlier, the company has issued a share buyback plan. We have agreed to purchase
$1 million per quarter pursuant to all underlying rules.
Speaker Change: So, you know, of course, hopefully that is received as a bullish sentiment. It's difficult to comment on the market, but I think given some of the earlier comments, I think we are just in the starting blocks. I mean, we are so bullish on this business, on the growth prospect, on Spruce Pro.
Speaker Change: And the last piece to your question are the legal expenses. We are materially through all one-time charges. We don't see anything even close to any of the past numbers that we've seen, and that is very close to being behind us, and we're thrilled for it.
Okay, great. Thanks very much, Chris.
Speaker Change: And that does conclude the question and answer session. I would like to turn the call over back to Bronson Fleig for any closing remarks.
Bronson Fleig: Thanks operator and thank you to everyone for joining us today and for your continued support. If you have any questions please contact me or our investor relations team. This concludes our call today.
Thank you so much