Sunworks Inc. (SUNW) Q2 2023 Earnings Call Transcript

Sunworks Inc. (NASDAQ:SUNW) Q2 2023 Results Conference Call August 14, 2023 1:00 PM ET

Company Participants

Jason Bonfigt - CFO

Gaylon Morris - CEO

Conference Call Participants

Philip Shen - Roth MKM

Donovan Schafer - Northland Capital Markets

Operator

Greetings. Welcome to Sunwork's Second Quarter 2023 Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note, this conference is being recorded.

I will now turn the conference over to Jason Bonfigt, Chief Financial Officer. Thank you. You may begin.

Jason Bonfigt

Thank you, operator. I'm Jason Bonfigt, Chief Financial Officer of Sunworks. On behalf of our entire team, I'd like to welcome you to our second quarter results of 2023 conference call.

Leading the call with me today is our President and CEO, Gaylon Morris. Today's discussion contains forward-looking statements about future business and financial expectations. Actual results may differ significantly from these -- from those projected in today's forward-looking statements due to various risks and uncertainties, including the risks described in our peer act reports filed with the Securities and Exchange Commission. Except as required by law, we undertake no obligation to update our forward-looking statements. Following our prepared remarks, we will open the line for questions.

With that, I'd like to turn the call over to Gaylon.

Gaylon Morris

Thank you, Jason, and welcome to those joining us today. As detailed in our second quarter earnings release issued earlier today, the last several months have been a challenging period for both Sunworks and the residential solar industry at large. Even so, we believe the long-term economics of solar remain highly attractive, particularly as the demands of a growing population weigh on our nation's aging electricity infrastructure resulting in structurally higher utility rates for customers over time.

During the second quarter, the combination of higher interest rates, less favorable residential solar economics in California following the NEM 3.0 transition together with utility permitting delays resulted in lower installation activity and reduced fixed cost absorption in the period. During a transitional period for our residential business, we've maintained an opportunistic pricing strategy in accordance with current demand conditions. At the same time, we've taken decisive action to further rightsize our cost structure, including a reduction in force beginning in the third quarter 2023.

Since launching our direct sales initiative in the fourth quarter of 2021, we've continued to gain significant traction in the market. Recall that customer acquisition costs within the direct sales channel are materially less than through our third-party agency channel. To that end, direct sales represented 45% of all originations in the second quarter versus 23% in the prior year period.

In July, we were pleased to appoint Mark Trout as Group CEO, Solcius, Sunwork's wholly owned residential solar business, effective July 10, 2023. Mark brings more than 35 years of senior commercial development and operational experience to some works, including deep sector expertise within the residential solar and advanced technology industries. Previously, he served as Chief Technology Officer for both Sunwork and Vivint Solar, where he led the implementation and execution of all IT and product technology initiatives, including solar product innovation.

At Solcius, Mark will provide his structural and systems expertise to our residential channel, while driving continued improvements in efficiency, quality and customer satisfaction. We are excited to have Mark join the team at a pivotal period for the company.

Turning now to a discussion of our commercial solar energy business. Our commercial business had an outstanding second quarter as revenue nearly doubled on a year-over-year basis, while gross profit margin increased more than 1,000 basis points to 26.5% in the period. Our track record of strong project execution has started to garner the attention of large commercial organizations, including several independent power producers, many of whom have multiple installations across the United States that represents promising new entry points for us.

Our ability to deliver a turnkey project on schedule and at or below budget is a key point of differentiation for us in the markets we serve, one that resonates with our customers. Our inbound indications of interest and commercial project awards that are waiting for utility approvals and studies have increased materially in recent months, both in reference to our traditional solar market installations but also in battery storage systems and EV installations, which represent new areas of opportunity for us.

In response, we've onboarded new creative financing options to secure the business while building a pipeline of opportunities supportive of future backlog growth. Looking ahead, we intend to stay on course for our strategic growth priorities, building market-leading positions in regional centers, while driving programmatic cost reductions that reduce our cash burn and put us closer toward achieving positive EBITDA consistent with our long-term objectives.

Given the strength in our backlog, together with ongoing development activities, we anticipate our financial performance in the second half of 2023, will be stronger than the first half of the year positioning us to rebuild momentum in our business entering 2024. As before, the market opportunity for solar remains significant across our geographic footprint, positioning some works to play a leading role in the transition towards affordable, clean and independent energy production.

With that, I'll hand the call over to Jason for his remarks.

Jason Bonfigt

Thank you, Gaylon. Beginning with a summary of our second quarter financial performance. Sunworks generated total revenue of $34.6 million in the second quarter of 2023, a decline of 4.8% versus the prior year period, as strength within commercial was more than offset by weaker performance in residential, which Gaylon referenced earlier.

While higher interest rates have increased in total cost of rooftop solar for homeowners, we continue to offer a suite of financial products that, over time, will help homeowners save money relative to their utility bills. Even so, higher rates remain a headwind for our business and the industry. In advance of the well-publicized NEM 3.0 transition in California during April 2023, customers accelerated their decision to go solar, resulting in a pull-forward demand from the second quarter.

As we move further away from April transition, we anticipate further stabilization in new originations. We factor that remains a challenge involves the significant delays in the average utility interconnection application approval time lines in California, which remains our largest market. Approval queues have approached 4 months or approximately 1 week last year.

As we move further away from the NEM transition, we would expect application approval time lines to normalize. Total gross profit was $11.4 million or 33% of sales compared to $16.6 million or 45.5% in the prior year quarter. The combination of execution improvements and higher volume within our commercial segment drove their gross margin to improve to 26.5% during the quarter.

Offsetting this improvement was under absorption of labor costs in our residential business as California utility approvals cause disruption and excess costs throughout the quarter. As we enter Q3, we are focused on margin improvement in residential as we realize labor cost savings and as utility approval queues revert to historical time lines, and as we exit underutilized markets in which we are not operating at scale to drive an acceptable margin profile.

We reported an operating loss of $11.4 million in the second quarter versus a loss of $7.5 million in the prior year period. Adjusted EBITDA was a loss of $9.9 million, better than our guided range of between $10 million and $11.5 million loss that we provided on August 2. We generated a net loss of $12.7 million in the second quarter of 2023 or $0.34 per basic share versus a net loss of $7.6 million in the prior year period or $0.23 per basic share.

As of June 30, 2023, the company had cash and cash equivalents of $4.6 million. During the Second Quarter, we took action to further bolster our liquidity to support the long-term growth of the business, by financing our ERTC receivable, raising equity and securing a factoring line of credit for our commercial receivables. Furthermore, on August 9, we announced the completion of an equity offering which resulted in net proceeds of $3.2 million, which is earmarked for general corporate purposes.

Operator, that concludes our prepared remarks. Please open the line for questions as we begin our question-and-answer session.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question is from Philip Shen with Roth MKM. Please proceed.

Philip Shen

I wanted to start off with C&I. It sounds like you're having some traction there. I was wondering if you could talk us through how long you expect to see the strength. I mean do you expect this to continue through Q3 and Q4 and perhaps even through 2024? Our sense is that things are actually accelerating with C&I. I was wondering if you are seeing something similar as well?

Gaylon Morris

I think the C&I industry is growing, it's getting more and more strong. I expect to see that business -- let's just say I expect to see the C&I market grow considerably over the next 18 months. It's not nearly as impacted by certain parameters that are impacting the residential market. And if you look at like Wood Mac studies and things like that, they all kind of fall in line with that same idea that the commercial business is going to improve over the next 18 months and then beyond that.

Philip Shen

And is part of the reason driven by like was C&I a little bit slower earlier this year because of the waiting for the IRA guidance and with the guidance now largely out have things freed up as a result. And can you also talk about margins? Do you expect the margins for this segment to kind of remain in this kind of mid-20s level?

Gaylon Morris

The IRA, certainly the guidance and understanding the domestic content adders and such have had an impact. I think that there was a negative impact earlier in the year and there still is to some extent, a headwind with regards to the utility approvals, not just the utility approvals from the residential side are definitely a burden, but rarely do they require any sort of a study or any sort of a follow-up activity by the utility that could take a serious amounts of time.

We have many, many contracts that we are not calling backlog yet that are sitting in approval queues at the utilities right now. So that has been the number one headwind so far. With regards to margins, I think the margin in this past quarter was a little bit optimistic in that our public works division had a few projects that were a little bit slower. We actually thought the revenue for the quarter was going to be higher but the public works projects are very large, and they come in at significant dollars of profit but lower margin numbers. So the ongoing margin profile is closer to low 20s.

Philip Shen

Shifting over to resi. You talked about rightsizing the business. And what do you think the right -- do you see a bottom yet in terms of kind of growth? Do you see acceleration at some point around the corner? Or do you think you need to hunker down for a little bit of time here. And when do you think you could start growing well again? Could it be in Q4, maybe in Q1 of next year? Or maybe the visibility is a little bit tough to figure out.

Gaylon Morris

Yes. I would say the biggest challenges we've had over the last 6 months have been where the sales are coming from. And we've had to make some decisions on where we're going to operate our warehouses and our installation activities, based on changes in the origination markets. So what you're seeing right now is, I think, a dip in our front end of our business because we are re-evaluating where we operate.

We are closing down a couple of our locations have closed down a couple of our locations. And we're looking at new areas that might make more sense for us to move into such as Florida or maybe the Northeast. So I think the key for us is to be deeper, meaning to sell more in those key markets that we're going to stay in and then to look really hard at what key markets should we be in that we're not in. But the thesis for the residential group, especially for 2024, is still a growth thesis.

Philip Shen

And so on that thought, what kind of growth are you anticipating? I know you haven't provided official guidance, but just if you can broad sketch it for us, just directionally, are you thinking plus 5% growth or maybe plus 50% growth? Ballpark, what are we looking at?

Gaylon Morris

Jason, do you want to take that? You've been a little bit closer to the forecast?

Jason Bonfigt

Sure. I think -- so we're always planning on following sort of what the Wood Mac is suggesting the growth rates will be. So I think we're still in the high single digits. I think we're still working through which markets we're going to be exiting it and which markets we may be pursuing over the next couple of quarters. So it's probably a little early to gauge that.

Our really focus is not necessarily on growth. It's about improving our gross margin and generating EBITDA as a business. And frankly, we think by shrinking in some of these markets that have weighed on margins, that's going to be more beneficial in the long run to the company.

Philip Shen

So given that thought there, what markets are you -- and sorry if I missed this earlier in the remarks, but can you share which markets you might be deemphasizing and then which ones you might want to go deeper?

And I think Gaylon just mentioned to me in the Southeast. And then finally, as it relates to capital and the balance sheet, was wondering if you could talk through the plan for receivables and just cash in general. I think your receivables have kind of ramped up a little bit to maybe 40 days in Q2, and that's compared with your prior levels in the 20 to 30 days. And so just wondering if you could comment on that working capital line item. And then in terms of cash in general, overall.

Jason Bonfigt

Sure. I'll take the back half of that question first. So yes, AR has increased. A function of that is -- there's two piece -- two elements to that, that we're managing. One is we have more cash customers than we had in the past, that lend itself to slightly higher AR balances. And then also, we have the financing partners that we utilize.

Typically, our long bucket faster rates on the funds. So we may have recorded revenue and finished completion, but where we're just waiting on PTO in our markets, specifically California, and that's waiting on that PTO. And then for that funding back from the lenders is the reason why you see those AR balances rising. So we think over time, as California begins to -- or the utilities in California begin to catch up on their -- on the submissions and the backlog there, we would expect to see some improvements in AR over time, specifically in working capital, we are managing inventory levels almost on an adjusted time basis. Module availability is dramatically improved.

Pricing has improved as well. So we'll continue to manage that fairly tightly. But -- and really, again, the focus on cash is all about rightsizing the workforce exiting the markets that we just can't be fully utilized in and have good leverage out of. So that's really our plan for the next quarter.

Philip Shen

And the first part of the question was on which markets you guys might be deemphasizing and deepening in?

Jason Bonfigt

I think in general, there's a few markets in the South Southwest and then one in the Southeast, we won't cover the exact markets, but that we're just not seeing the right amount of originations are right now to support having facilities there. So I think that's probably the most that we'll share.

Operator

Our next question is from Donovan Schafer with Northland Capital Markets. Please proceed.

Donovan Schafer

I want to ask first on originations. With having your own direct channel and then the third-party channel, it gives you a kind of maybe more comprehensive view on what's happening with consumers. And so I'm curious from that, if you can give any color on what's driving -- if the lower originations, that's more fewer leads coming in at the top of the funnel? Or is this -- are there -- are you getting lower reduced closed rates?

Maybe because you get the leads in still, but then when you kind of put together the comparing what pricing you can offer them on a monthly basis versus if they pay maybe it doesn't pencil out as well. So it ends up being a drop off in the close rate. As it kind of equal contribution from both. Just kind of curious for some more color there.

Jason Bonfigt

I'll start. this Donovan. I would say that in general, we have seen originations decline post NEM 3.0. We had -- many of our partners were repositioning into other markets. There's also changing sales dynamics of how you talk to customers, you're maybe selling a PPA product or probably ownership product versus a loan. And then the economics certainly have -- are still beneficial over time in California, but it have deteriorated relative to NEM 2.0.

So I think a lot of this is a transition. And so in general, we've seen a slowdown. I think there's just -- there's many factors to answer as part of answering that question.

Donovan Schafer

And then for permitting or getting to the process of utilities, in California. This seems to be a pretty important issue and you talked about thinking the second half of the year is going to be stronger than the first half.

So I'm wondering, now we're about halfway into the third quarter. Is there any -- and you guys talked about the delays they're getting as wide as 4 months. Are we still kind of around four months? Or have you begun to see an improvement in that utility permitting aspect? Kind of where do we sit now in the middle of the third quarter?

Jason Bonfigt

So we're at four months today. So when I look at the utility approvals that are coming in, they're coming in from the date of the transition to NEM 3.0. So there was just a massive surge, originations that applications that came in just leading up to the deadline. And we believe they're working through sort of those last submissions. So we've probably we probably crested at this point, and we gradually, at some point, they've worked through these -- all these applications, and we start to see time lines begin to normalize. We haven't seen that gap, but we expect to happen during Q3.

Donovan Schafer

And then if I could get another question. So it did catch my attention in the release and then in your prepared remarks, referencing IPPs potential customers on the CNI side of business. Correct me if I'm wrong, but I believe -- or that would be kind of be news to me. I don't believe in the past, you've done projects that would reach that scale of what we typically think of as an IPP. So is this kind of a new avenue that you guys are pursuing and I guess, what size projects would that get you up to?

Does this involve kind of a step change for you or you could become involved in 100 megawatt projects and the like? Just very interesting, very interesting development there, so if you can give any additional color, that would be great.

Jason Bonfigt

So over the last months, we've made some significant changes in the direct sales team on the commercial side, the folks who the commercial side that sell for us. And some of the newer people that we brought on board have some really strong relationships with developers and IPPs, and we are certainly quoting projects now that are larger than we looked at consistently in the past.

I would say we're not really in the double-digit megawatt category yet, but 5, 6, 7 megawatt projects are certainly projects that we're looking at and evaluating. We could certainly go a little bit larger than that. But beyond that, there becomes all kinds of debonding concerns and other issues that would be a little bit more challenging for us.

Operator

We have reached the end of our question-and-answer session. I would like to turn the conference back over to Gaylon for closing comments.

Gaylon Morris

Thank you. Once again, thank you for joining our call. Should you have any questions, please feel free to contact us at ir@sunworks.com, and a member of our team will follow up with you. This concludes our call today. You may now disconnect. Thank you.