Spark Power Group Inc. (SPG) Q3 2022 Earnings Call Transcript

Spark Power Group Inc. (TSE: SPG) Q3 2022 earnings call dated Nov. 15, 2022

Corporate Participants:

Richard Perri — Executive Vice President and Chief Financial Officer

Richard Jackson — President and Chief Executive Officer

Presentation:

Operator

Good day, ladies and gentlemen, and welcome to the Spark Power Corp. Investor Call and Webcast. [Operator Instructions] The floor will be opened for questions and comments following the presentation.

It is now my pleasure to turn the floor over to your host, Richard Perri, CFO at Spark Power. Sir, the floor is yours.

Richard Perri — Executive Vice President and Chief Financial Officer

Good morning, and thank you for joining Spark Power’s 2022 third quarter conference call. Joining me on the call today are Richard Jackson, Spark Power’s President and CEO; and Tom Duncan, Spark Power’s Executive Vice President and Chief Operating Officer.

On today’s call, we will discuss the company’s third quarter performance, including key business drivers. We will also provide an update on some of the key strategic initiatives that we have been undertaking to streamline our business and position Spark Power for long-term profitable growth and value creation. In a moment, I will hand over the call to Rich Jackson, who will comment on our business highlights for the third quarter and some of our key strategic initiatives. I will then provide a financial overview of the quarter and will conclude by briefly detailing some of the reasons why we believe Spark Power is well positioned for long-term success. Following our prepared remarks, we will open up the call for Q&A.

Before proceeding, I would like to remind listeners that our presentation contains certain forward-looking statements that are based on current expectations and are subject to several risks and uncertainties and actual results may differ materially. Further information identifying risks, uncertainties and assumptions and additional information on certain non-IFRS measures referred to in this call can be found in the disclosure documents filed by Spark Power with the securities regulatory authorities available on sedar.com. Forward-looking statements are made as of the date of this call, Tuesday, November 15, 2022. Except as expressly required by applicable law, Spark Power assumes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

With that, I will now hand the call over to Rich Jackson, President and CEO of Spark Power.

Richard Jackson — President and Chief Executive Officer

Thank you, Richard, and good morning, everyone. Thank you for joining us on today’s call. We remain very pleased with the ongoing momentum we are seeing in our business. This not only extends to the ongoing financial improvements we have been realizing, but also with respect to our key strategic priorities for 2022.

This quarter, we once again reported strong results, which were in line with our expectations. This included revenue in line with the record revenue we reported in Q2 2022 as we continue to see strong demand across both Canada and the US for our core technical services and renewables businesses. The diverse platform of complementary services that we have built differentiates us in the industry and is allowing us to capitalize on market tailwinds in both core segments.

As part of our focus on driving sustainable, profitable growth and moving forward, our team is successfully positioning Spark Power as a trusted partner with our customers. And during the quarter, we continued to grow our business with the addition of several new customers. Our approach to selectively pursuing only profitable revenue opportunities is really beginning to crystallize. Alongside our recent pricing initiatives to mitigate inflationary pressures and our broader cost rationalization initiatives, we are starting to see margin enhancement. For the third consecutive quarter, we were able to deliver sequential improvement in EBITDA margins. We anticipate further improvement in margins in the quarters to come.

As we’ve talked about recently, a primary area of focus for Spark Power this year has been on progressing towards the completion of our One Spark business integration and streamlining efforts. This includes optimizing our platform and organizational structure, as well as establishing consistent business processes, technology and KPI measurement across the organization. I’m happy to report that these initiatives, which began in 2021, remain on track to be completed in early 2023.

Significant progress made year-to-date includes launching new commercialization initiatives earlier in the year, completing the majority of our integration work, flattening our management structure and concluding our founder transition. We have been optimizing our footprint, have consolidated and closed five branches year-to-date based on market density and profitability, better aligning our business to market opportunities. We have also been evaluating potential opportunities to optimize our asset base, including with respect to our fleet, inventories and equipment.

To date, we have realized approximately $6.5 million of pro forma annualized SG&A cost savings through our various initiatives, and we expect to realize the full benefits of these initiatives through 2023. And while we are nearing the end of our restructuring efforts and our position to move forward into the future as One Spark, we are building a culture of operational excellence and continuous improvement as part of our focus on driving sustainable, profitable growth moving forward.

Other business highlights of the third quarter included the first go-live for our new ERP system, which Richard will elaborate on in a moment. While there is still more work to be done, we believe we can now see the light at the end of the tunnel on the significant restructuring and integration initiatives we have been undertaking. We expect to close out 2022 on strong footing, positioning us to deliver ongoing value creation in 2023 and beyond with our One Spark operating model.

Subsequent to quarter end, we also announced two key corporate developments that I wanted to highlight. Firstly, at the end of October, we announced that we have entered into a binding agreement to divest our Bullfrog Power business unit, which comprises our Sustainability Solutions segment. While Bullfrog was critical to helping establish our company as a leader in sustainability, it represents a low single-digit percentage of our revenue, and we felt that it was non-core to our go-forward strategy focused on our core technical services and renewables businesses. As a result, we determined that this was an appropriate time to sell the business.

Importantly, we believe that there will be continued opportunities to work with Bullfrog moving forward in a mutually beneficial capacity, leveraging one another’s expertise. I would like to take a moment to thank all of Bullfrog’s great employees for their many contributions to Spark Power, and we believe that the future remains bright for Bulldog moving forward. Closing of the sale of Bullfrog is expected to occur by the end of the month. Proceeds from the transaction will be used to reduce our debt and fund our working capital needs, while providing capital to support the growth of our other business units.

As we also noted via a press release at the end of October, we remain in advanced negotiations with our senior lender on terms of an amended and restated credit facility. The amendments are expected to provide Spark Power with additional liquidity and operating flexibility to meet the needs of the business and its next stage of growth and maturity. This includes extending the maturity date of our facility and reestablishing traditional financial covenants. We expect to finalize the amended credit facility concurrent with the closing of the Bullfrog sale.

With much of the heavy lifting now behind us, we look forward to embarking on the next stage of our strategy, capitalizing on the market tailwinds and the multitude of profitable growth opportunities available to Spark Power. Indeed, we will launch our new Let’s Grow Better Strategy in early 2023, and I look forward to sharing the details behind the strategy as we close out its formulation in the coming weeks.

Before handing the call back to Richard, I would like to extend our gratitude to our hard-working and passionate employees, without whom the improvements we have seen would not have been possible. They have been the difference maker as Spark makes its way through the maturity curve. I would also like to thank our other stakeholders, including the investors who have stood by Spark Power throughout the recent challenging headwinds. We believe we are truly building something great here, and this will become increasingly evident as we continue to execute on our strategic plan.

I’ll now turn the call back to Spark Power’s CFO, Richard Perri, to discuss our Q3 financial results.

Richard Perri — Executive Vice President and Chief Financial Officer

Thank you, Rich. Q3 was another quarter in which we delivered additional progress on our financial objectives. This includes strong top line revenue, but perhaps even more importantly, additional margin enhancement as we work to establish a track record of more consistent earnings. The financial progress we are and will continue to deliver is ultimately indicative of our heightened focus on execution and long-term value creation. Importantly, the improvements we have seen are not isolated to any one specific part of our business. We delivered revenue growth in each of our core segments and realized EBITDA improvements across our portfolio, while we also realized corporate cost savings on a year-over-year basis.

We are capitalizing on the attractive market opportunities we see across our footprint and business lines. Simultaneously, we are realizing the benefits of our various efficiency initiatives across the organization. As Rich mentioned, we exited the quarter with approximately $6.5 million of annualized SG&A reductions realized. Encouragingly, our team has also made great progress on mitigating and managing recent inflationary pricing pressures. We believe that we have worked through the bulk of these challenges with gross margins now approaching prior year levels, excluding the impact of the estimate updates recorded last year. With margin pressures easing and SG&A savings in place, this sets the stage for us to close out 2022 on a high note with continued momentum into 2023.

Total revenue in Q3 2022 was $73.4 million. This represents an increase of 6.3% year-over-year and is consistent with the record $72.9 million in revenue we generated in Q2 2022. All of this growth was achieved organically and, as I mentioned, reflects growth in each of our core operating segments.

In our Technical Services segment, revenue this quarter was $44.8 million, an increase of 7.9% year-over-year. This revenue growth is primarily related to significant volume growth in the high voltage segment, combined with larger projects carry-forward from 2021. In our Renewables segment, revenue in Q3 2022 was $25.8 million, an increase of 9.8% year-over-year and up 14.7% as compared to Q2 2022. The improvement we have seen in renewables revenue primarily reflects the significant growth in the solar segment, in particular in the US market.

Our Sustainability segment posted lower revenue in the quarter versus prior year due to the timing of a large corporate deal last year. Demand for environmental attributes continues to grow and the benefits of our power purchase agreements delivered strong upside gains on derivative assets in the quarter, both realized and unrealized.

Total gross profit margin, excluding non-cash depreciation and amortization, was 29.1% in Q3 2022. This marked a continued increase from 23.7% in Q1 2022 and 27.5% in Q2 2022. The recent trend of quarter-over-quarter improvement reflects our concerted efforts to adjust pricing where possible to mitigate recent inflationary pressures. While inflation was still a factor impacting margins on a year-over-year basis, we are encouraged by the progress we are seeing.

Our recent gross margin improvements also reflect improved operational execution in the field as well as our deliberate focus on pursuing higher margin service work versus larger scale lower-margin project work. These sources of gross margin improvement remain areas of focus for Spark Power and we are optimistic about delivering additional improvement in gross margins in the coming quarters.

Total SG&A expenses, excluding depreciation and amortization, were $12.8 million in Q3 2022, representing 17.5% of revenue. This compares to SG&A of 19.1% of revenue in Q3 2021 with the year-over-year improvement reflecting the crystallization of operating efficiencies from the recent cost initiatives undertaken by Spark Power. More specifically, staffing costs were lower by $1.1 million for the quarter as compared to Q3 2021, tied to the rightsizing of our corporate cost structure. This was partly offset by higher insurance costs and computer-related costs tied to our ERP migration.

Within our corporate segment, SG&A expenses were relatively flat year-over-year, reflecting a modest decline in salary and benefits with lower gross wages tempered by more fully accrued bonus expenses. Travel costs were higher in the quarter related to our ERP migration. In September, as Rich discussed, we also had the first go-live of our new ERP platform for our US Technical Services business, which went very smoothly.

We are encouraged by the initial results of this rollout, and we will continue to roll out this system across the organization over the next three to six months. The integration will bring all operating companies onto one single platform helping deliver improved customer experience, unlocking operational efficiencies in both the field and back office and establishing a scalable platform for the next stage of our company’s growth. Stemming from this implementation, we anticipate additional cost savings to flow through to EBITDA, the majority of which we expect to begin realizing in the second half of 2023.

Total adjusted EBITDA, excluding unrealized gains on derivatives, was $12.4 million or 16.9% of revenue in Q3 as compared to $9.1 million or 13.2% of revenue in the prior year period. The significant growth in adjusted EBITDA reflects the benefits of higher quality revenue and enhanced gross margin realization. We also experienced foreign exchange gains in the quarter of $1.9 million. Total adjusted EBITDA, excluding unrealized gains on derivatives and foreign exchange gains, was $10.5 million in the quarter. Including unrealized gains on derivatives, total adjusted EBITDA was $14.9 million or 20.3% of revenue in Q3 as compared to $10.3 million or 14.9% of revenue in the prior year period.

During the third quarter, the demands on working capital were higher to support the peak of our busy season. We made good progress to accelerate billings at the end of the quarter as evidenced by the reduction in our contract asset balance. Accounts receivables reflect the increased billing activity, and we expect to draw down the balance through the fourth quarter. Overall, cash flow from operations was a source of $5 million.

Capital expenditures in the quarter were $4.4 million, which was an increase as compared to recent quarters and the prior year period. This increase was expected, reflecting the development cost of our new ERP platform. We also incurred $1.9 million of leasehold improvements related to our new head office, which have been set up as other receivable to be reimbursed by the landlord as part of a tenant improvement allowance.

During the quarter, the company received a $2 million advance on the term debt facility and made principal payments of $2 million for lease liabilities. As a result, the total change in bank indebtedness was a decrease of $0.2 million for the quarter, and total debt outstanding to our prime lender as of September 30 2022, increased by $1.7 million to $89.2 million as compared to the end of Q2 2022.

Generating strong free cash flow remains a key financial objective for Spark Power as we strive to deliver increased value for our shareholders. Many of the initiatives we have been undertaking in recent months are working towards this objective. In addition, deleveraging our balance sheet remains a top near-term priority for capital allocation. We are committed to taking the necessary steps to optimize our capital position. Strategic decisions such as divesting Bullfrog Power will help to strengthen our balance sheet in the near term, while continuing to deliver improvements in earnings and free cash flow to help support execution of our growth strategy.

To conclude, we are very pleased with the ongoing progress we are seeing across our business with respect to both our financial objectives and our strategic initiatives. However, there is more work still to be done and we remain focused on executing on our strategic plan and continuing to enhance the quality of our earnings. We are rebuilding our business and platform to be one that is efficient and scalable. This includes instilling a high performance culture that embraces continuous improvement and pursue sustainable, profitable growth opportunities.

As we near the end of our streamlining and integration efforts, we are excited to embark on the next stage of our maturity. In the coming months, we plan to communicate to the investment community our strategic road map for the next three years. In the meantime, I would like to reiterate that we believe Spark Power is in a truly unique position. We have strong competitive positioning in both of our core segments with end-to-end capabilities and with long-term industry tailwinds that support end market demand. We have a highly recurring revenue base and we are becoming increasingly integrated with our customers as a trusted adviser. We have a multitude of opportunities for both organic growth and margin expansion and our scalable model will support profitable growth over the long-term.

Finally, we are generating improving profitability and the low capex requirements of our business will support robust cash flow generation, allowing us to continue strengthening our balance sheet. We look forward to continuing to execute on our strategic plan and believe that as we continue to do so, the attractive attributes of our business and the value we are generating will increasingly be recognized.

With that, we will now open the call for Q&A. And Rich and I would be happy to address any questions you may have at this time. Thank you.

Questions and Answers:

Operator

Thank you. [Operator Instructions] And there were no questions from the line at this time. I’d like to hand the call back to Richard Perri for closing remarks.

Richard Perri — Executive Vice President and Chief Financial Officer

Thank you. In closing, we would like to thank everyone for joining us this morning for our quarterly update. As Rich mentioned, we are optimistic about closing out the year on a strong note and hitting the ground running to start the new year. We are pleased with the progress that we have made over the last nine to 12 months, and we acknowledge that there is still more work in front of us. We look forward to providing our next update after year-end. Hope everybody has a great early part of the winter season and gets ready for the holiday season.

With that, I hope everybody has a great day and we will talk to you soon. Thank you.

Operator

[Operator Closing Remarks]