OPAL Fuels Inc. (NASDAQ:OPAL) Q4 2022 Earnings Call Transcript

OPAL Fuels Inc. (NASDAQ:OPAL) Q4 2022 Earnings Call Transcript March 28, 2023

Operator: OPAL Fuels Fourth Quarter and Full Year 2022 Earnings Results Conference Call. At this time, all participants are in a listen only mode. After the speakers’ presentation, there will be a question-and-answer session . As a reminder, today’s conference call is being recorded. I would now like to turn the conference over to your host Mr. Todd Firestone, Vice President of Investor Relations. Please go ahead.

Todd Firestone: Thank you, and good morning, everyone. Welcome to the OPAL Fuels fourth quarter and full year 2022 earnings conference call. With me today are Co-CEOs, Adam Comora and Jonathan Maurer; and Ann Anthony, OPAL’s Chief Financial Officer. OPAL Fuels released financial and operating results for the fourth quarter and 12 months year-to-date of 2022 yesterday afternoon and those results are available on the Investor Relations section of our Web site at opalfuels.com. The presentation and access to the webcast for this call are also available on our Web site. After completion of this call, a replay will be available for 90 days. Before we begin, I’d like to remind you that our remarks on this call including answer your questions contain forward-looking statements, which involve risks, uncertainties and assumptions.

Forward-looking statements are not guarantee of performance and actual results could differ materially from what is contained in such statements. Several factors that could cause or contribute to such differences are described on Slide 2 and 3 of our presentation. These forward-looking statements reflect our views as of the date of this call and OPAL Fuels does not undertake any obligation to update forward-looking statements to reflect events or circumstances after the date of this call. Additionally, this call will contain discussion of certain non-GAAP measures, including but not limited to, adjusted EBITDA. A definition of non-GAAP measures used and reconciliation of these measures to nearest GAAP measure is included in the appendix of the release and presentation.

Adam will begin today’s call by providing an overview of the fourth quarter results, recent highlights and update on our strategic and operational priorities. John will then give a commercial and business development update. After which Ann will review financial results and full year 2023 guidance. We’ll then open up the call for questions. And now, I’ll turn the call over to Adam Comora, Co-CEO of OPAL Fuels.

Adam Comora: Thank you, Todd. Good morning, everyone. And thank you for being here for OPAL Fuels fourth quarter and year end 2022 earnings call. 2022 was a remarkable year for OPAL Fuels filled with many achievements for our company as well as positive developments for the RNG industry as a whole. We are proud of what we’ve accomplished and we remain steadfast in our focus on executing on our plan. I’d like to highlight several points. First, we continue to execute on our strategic and operational priorities. We believe our integrated platform is a powerful model in delivering renewable low carbon RNG to the marketplace. Strategically, our goal is to continue to grow our RNG production and to maximize the value of that RNG, which currently remains the US transportation fuel market as the highest value distribution.

Operationally, we remain committed to be the premier vertically integrated RNG company in the industry, one that excels at providing value to not only our shareholders but also our customers and partners. Importantly, we think our visible and tangible growth profile is a differentiating factor in the marketplace. We grew our RNG output by more than a third this past year. As we disclosed in our 2023 outlook, we expect growth to accelerate this year by greater than 50% over 2022 to more than 3.4 million MMBtus at the midpoint of our guidance. Our projects and construction remain on track, which provides visibility to accelerating production growth once again in 2024 from 2023. In addition to production, our advanced development pipeline continues to grow and mature.

And as John will touch on later, we have seen some of the development delays from 2022 ease and we expect to place at least 2 million MMBtus of output capacity into construction in 2023. I want to touch on our vertical integration business model and our current views on environmental credit pricing. We continue to believe our business model both maximizes the value of our produced RNG and provides important flexibility and optionality in the future to capitalize on RNG tailwinds, both new off take markets and public policy initiatives as those evolve and strengthen. The US transportation fuel market continues to be the highest value off take, averaging twice the value of fixed price contracts and again leave us the option in the future to explore new end markets and test incremental pricing power with fleet customers.

We do get a lot of questions on this merchant model and Ann will speak later about some of our business segments, fuel station services and renewable power and the long term contract and nature of those business segments, which mutes some of the volatility by remaining merchant on our RNG production. Having said that, let’s dive into some of the recent dynamics in both D3 RIN pricing and LCFS credits. On D3 RIN dynamics, we see the recent drop in price being driven by the potential oversupply of cellulosic D3 RIN volumes in the proposed set rule introduced by the EPA in December of 2022 with rule of finalization expected to occur in June of this year. This potential oversupply is driven by two factors; continued growth in RNG production capacity and additional supply from the proposed eRIN pathway.

It is important to note that OPAL Fuels will see strong benefits from this eRIN pathway as our existing renewable power segment will be able to participate and generate significant incremental RIN without investing new capital. We will be providing more clarity around this potential as the rules get finalized. On the demand side of D3 RINs, we remain optimistic that EPA RVO targets could be adjusted higher to account for both cellulosic supply additions, as well as anticipated eRIN volumes as those rules become finalized. It is the clear intent of both the original RFF and proposed rule of commentary to support and grow the cellulosic category. The original loss stated the cellulosic D3 category was targeted to be $16 billion D3 RINs and the EPA administration is meant to support growth up to that figure.

With updated industry production actuals over the past six months and demonstrated new supply growth coming online, the EPA has the support to raise volumes and has opened the door for future reenactment of the waiver credit over the multi year set period. It is important to remember why the law and EPA are so supportive of the cellulosic category. The source of this category of biofuels is capturing harmful methane emissions, the single most important thing we can do to combat climate change. Another interesting feature of the proposed set rule is the multi year RVOs. We believe that feature may dampen volatility in the future and perhaps open up two to four year contracts for RINs now that obligated parties will have visibility into their volume obligations for a multiyear periods.

So from our perspective, we believe OPAL will ultimately create more value from existing and future projects from the E-RIN pathway and structurally, we may see new contracting opportunities from the multiyear RVOs. Given this outlook, we are currently limiting our 2023 RIN sales in the first half of the year as rules are finalized, and Ann will touch on later how that will roll through our financials and reporting. As you see in our guidance sensitivities, we have much less exposure to LCFS pricing. Our Sonoma project has an off take contract with a floor of a $100 per credit and we have much less dairy production currently online versus landfill. On LCFS though we remain very optimistic on credit pricing and the direction that CARB has intimated it is heading to on proposed program changes to be finalized over the balance of 2023 for 2024.

CARB is giving clear signals to the market they would like to encourage more investment by supporting pricing, which will likely include stronger compliance targets, creating incremental demand for LCFS credits starting next year. As we look to this year, we are introducing our 2023 adjusted EBITDA guidance, which we expect to range from $85 million to $95 million. Our RNG production range from $3.2 million to $3.6 million MMBtus and capital expenditures to range from $220 million to $240 million. Ann will provide more detail but we expect an $8 million change to 2023 adjusted EBITDA for every $0.25 gallon change in D3 RIN prices. We continue to benefit from substantial and broad based developments in our industry. First, I’d like to provide some insight into how our thinking on the IRA has evolved over the last several months.

While we still await the final guidance from treasury, we are confident that the ITC provisions will apply to landfill RNG projects thus encompassing nearly all of our in construction and advanced development pipeline projects. While we are still determining the exact level of ITC benefit, we have been in advanced discussions with the appropriate advisors and counterparties to believe we will benefit significantly. Second, the 45Z credits are set to be impactful as well and we expect clarity from treasury in the coming months on that front. We expect to begin realizing these benefits in 2023 and see them growing in 2024 and throughout the next five years. 2023 is set to be a very good year for OPAL Fuels. To some degree, a bit of a contrast from 2022.

In 2022, we saw very good commodity environmental credit pricing but saw some near term headwinds in the development of our new project pipeline. In 2023, we have begun the year with lower near term commodity and environmental credit pricing but see the positive momentum beginning with our new project development, which is ultimately the long term value driver of our business. With that, I’ll turn it over to John. Jon?

Jonathan Maurer: Thank you, Adam, and good morning, everyone. I want to start out by saying that we are very focused on executing on our growth plans. We grew RNG production nearly 40% in 2022 and we expect to grow by more than 50% this year. Our in construction portfolio’s timing is progressing with a cadence that is in line with our expectations and we think sets us up for accelerated growth into 2024. During 2022, our operating project portfolio increased from three to six projects and now seven with the just completed Bio Town dairy project in Indiana. In 2022, we commissioned three landfill RNG projects, the Noble Road project in Ohio, our New River project in Florida and the Pine Bend Project in Minnesota. These RNG projects represent 1.6 million MMBtu of nameplate RNG capacity.

At all three of these landfill projects, gas production continues to increase as the trash volumes there increase. In addition to our operating projects, we currently have six RNG projects in construction with the Bio Town dairy RNG project having just entered operations as we said. Of these six, we expect Emerald to go online in the next several months, Prince William in the fall and Sapphire late in the year, our two dairy projects we expect to be commissioned in early 2024 and the Northeast landfill later in 2024. As Adam mentioned, we expect production increases this year from our operating and in construction portfolio that are in line with our prior expectations with the 3.4 million MMBtu midpoint of production guidance being a 57% increase compared to RNG production in 2022.

I want to pick up on what Adam mentioned earlier about development conditions easing. The good news is that the project development logjam is breaking and conditions are improving in terms of moving projects forward compared with last year. Recall that we described how last year presented a number of challenges, which tended to delay projects as landfill owners assessed the substantial market dynamics surrounding the value of their RNG resource. We provided some color on this topic on our third quarter call. Fast forward to today and we are already seeing improvements. We anticipated an acceleration of executed agreements for gas rights and for construction contracts and that this acceleration should translate into progressing projects through our advanced development pipeline more quickly and placing projects into construction as we progress through the year.

Since we last reported, we have added over 0.8 million MMBtu of biogas to our advanced development pipeline, most of which is landfill but also contains dairy and food waste projects. These projects are ones that we have qualified and that we reasonably expect can be into construction within the next 12 to 18 months. I’d also remind listeners that our advanced development pipeline does not include other earlier stage projects, which we continue to evaluate. As one of the largest RNG players in the sector, we tend to see most of the projects in the marketplace, all of which makes our pipeline dynamic and growing as we screen for the best opportunities. Our overall development funnel continues to see positive momentum and provides opportunities in excess of what qualifies as our advanced development pipeline.

OPAL Fuels is on track to commence construction of 53 fueling stations this year, approximately 24 OPAL Fuels owned stations and another 26 for third parties. Our overall RNG fuel dispensing volumes are expected to grow to approximately 55 million gallons this year from nearly 30 million gallons in 2022. In terms of our landfill gas to electric projects, OPAL Fuels owns and operates 19 landfill gas to electric projects, representing about 124 megawatts of nameplate capacity. Recall that we began developing this portfolio 25 years ago back in 1998. While six of these projects are candidates for conversion to R&D projects, the majority will remain electric projects. The EPA’s recently proposed eRIN pathway stands to substantially increase the value of these projects, adding over $300 per megawatt hour gross to the existing values of these projects, which has the potential to substantially increase the EBITDA from this business segment, depending on eRIN sharing and RIN price.

We await updated guidance from the EPA on this topic, which is expected in the next few months. In the meantime, we are positioning ourselves to meet this market opportunity by continuing discussions with auto manufacturers who are proposed to create these eRINs through the EV data that they collect. As we highlighted early on, continued industry consolidation remains a significant tailwind for the RNG industry and certainly for OPAL Fuels. We’d highlight recent upstream and downstream transactions that acted as additions to existing upstream infrastructure. We think those acquisitions tend to support how industry players are thinking about the value of integration. Some of the thinking driving this consolidation revolves around how demand expectations for RNG are expected to shift over the next several years.

We’re already seeing the beginning of this trend with demand growth from utilities in the form of RNG mandates for power generation, as well as increasing demand in European end markets, and many expect increasing demand coming from Asia too. Separately, hydrogen producers are seeking low carbon sources of renewable methane and our portfolio production assets and fueling stations is well positioned to take advantage as that market moves forward. I’ll now turn over the call to Ann to discuss our fourth quarter and year end financial results. Ann?

Ann Anthony: Thank you, John. And good morning to all the participants on today’s call. Last night we filed our earnings press release, which detailed our quarterly and year end results for the period ending December 31, 2022. We anticipate filing our 10-K in the next day or so. We saw strong growth in two of our three business segments, RNG fuels and fuel station services. The biggest driver of the quarter and year-to-date results is RNG fuels where we are starting to see the contribution from the RNG projects that have come online in 2022. We saw strong topline growth for the fourth quarter with revenue up 42% year-over-year, driven primarily by higher volumes produced and sold in the RNG fuel segment, as well as higher prices for brown gas and higher RINs under forward sales contracts we had entered into earlier in 2022.

These benefits were partially offset by higher cost of sales due to electric utility costs and employee costs to support our growth, as well higher royalties driven by higher energy revenues. G&A costs for the fourth quarter totaled $14 million, reflecting transaction and other costs, of which $10 million is considered 1 times. As a result, we generated net income in the fourth quarter of $32 million. For the full year 2022, before considering the impacts of preferred dividends, we achieved net income of $32.6 million, reflecting the standalone results for OPAL Fuels LLC and ArcLight Clean Transition Corp. II through the closing of our business combination last July 21st, plus the combined operations since then. Consistent with the results we saw in the fourth quarter, we benefited from pricing for environmental attributes that we had locked in via forward sales early in 2022 coupled with higher commodity prices.

Looking at fourth quarter results compared to the third quarter, RNG production remained constant at 0.6 million MMBtus, which represents volume net to OPAL Fuels. Adjusted EBITDA was $20.1 million in the fourth quarter versus $25.5 million in the third quarter. The difference was primarily the result of the previously disclosed $3 million gain from the Bio Town debt associated with monetizing and in the money LCFS off take contract. We also do experienced some seasonality with some of our downstream fueling customers that see heavier volumes in the summer months along with some timing associated with downstream fuel station construction contracts. We reported adjusted EBITDA of $20.2 million for the fourth quarter and $60.7 million for the 12 months ended December 31, 2022.

Adjusted EBITDA benefited from the same drivers we discussed above. Higher environmental attribute pricing and commodity pricing offset by higher cost of sales and higher royalties. Fourth quarter adjusted EBITDA excludes several one time items, including an unrealized loss related to our warrant exchange we completed in December. We also had a number of one time costs related to going public that occurred during the fourth quarter and throughout 2022, which are excluded from adjusted EBITDA. As of December 31st, we had $167.8 million of outstanding borrowings, net of deferred financing costs, including $94.3 million of outstanding borrowings under Term Loan A, $28.5 million related to the remaining amount of the convertible note we had issued to Ares for the acquisition of the Imperial and Greentree projects in 2021, $22.1 million of the Sunoma loan and $22.8 million related to our renewable power project financing.

Our second term loan, which we closed in August and which we’ll finance a portfolio of RNG projects that are or shortly will be in construction remains undrawn. As of December 31st, our liquidity position was $257.2 million, including $40.4 million of cash and cash equivalents, $36.8 million of restricted cash $65 million of short term investments and $115 million of undrawn capacity under our term loan. We did recently draw down the final $10 million remaining under Term Loan 1. I will also note that, we did not have any exposure to either Silicon Valley Bank or Signature Bank. So we were spared any of the associated distractions that many other growth companies have been dealing with in the past few weeks. We expect these existing sources of liquidity to be sufficient to fund the company’s construction and development capital needs for the next 12 months.

We also anticipate that significant capital continues to be available for deployment in the RNG space. As a newly public company, we are very focused on how best to attract long term investors. The OPAL team continues to believe that the most powerful way to do this is to deploy capital effectively and demonstrably grow earnings power. Before turning the call over for Q&A, I’d like to discuss our 2023 guidance. I will note that all guidance is current as of the published date is subject to change, and we undertake no obligation to update it. As Adam noted earlier, we anticipate our full year 2023 adjusted EBITDA guidance range to be $85 million to $95 million, which is based on our expected range of RNG production in 2023 of $3.2 million to $3.6 million MMBtus.

Our adjusted EBITDA outlook is predicated on several key pricing assumptions such as $2.25 per gallon for D3 RIN, $90 per ton LCFS credit price and $3 for MMBtu brown gas. This quarter, we also included detail on the impact of commodity price changes to our full year revenue and adjusted EBITDA outlook. We expect an approximately $8 million change to 2023 adjusted EBITDA for each $0.25 per gallon change in D3 RIN price, a $1.4 million change for every $0.50 per MMBtu change in natural gas price and a $400,000 change for every $10 per metric ton change in LCFS credit price. We are also updating our guidance for our portion of capital expenditures, excluding acquisition costs and net of any partner capital contributions to $220 million to $240 million.

Our guidance does include some assumptions about the amount of ITC we can monetize in 2023 but we await like everyone else who follows the RNG space, definitive guidance from treasury, so our specific disclosure will be limited until we have that clarity. All of our IRA benefits will be recognized as income likely in other income, but a reminder that these are real cash proceeds not just cash tax avoidance. Hence, the recognition is income, which is expected to continue for at least five years. As a reminder, in accordance with GAAP ASC-606, we can only recognize revenue and the related earnings from environmental attributes once they are sold to, transferred and accepted by the counterparty. We present the value of stored gas and unsold environmental attributes as part of adjusted EBITDA to allow the reader to understand the value and timing of production.

We will continue to report our adjusted EBITDA with visibility as to stored gas and credits as we anticipate only selling a minority of our production in the first half of 2023, while we await EPAs updated RVOs. As a result, revenue and net income will be lower for the first half of the year with 2023 results being skewed to the latter half of the year. Again, the EBITDA adjustment is intended to levelize this reporting and match inventory produced within the period costs are recognized. Finally, going forward for 2023, we will be presenting the revenues and expenses associated with our CNG tolling business in fuel station services. As noted earlier, OPAL owns and operates a number of dispensing stations where we dispense the fuel and service the location for a customer.

This activity had been reported in the RNG fuel segment in 2022 and prior periods. Going forward, we will include this in the fuel station services segment to better differentiate between the business activities and value drivers in the upstream and downstream portions of our business and facilitate easier comparisons to peers in our space. Adding to that, although, we are labeled as a merchant play due to our exposure to the volatility inherent in environmental attributes, there are several earning streams in this business that dampen volatility. Our renewable power business is predominantly contracted under long term power purchase agreements. The fuel station services business is profitable and growing supported by 10 year contracts, both service and fuel supply agreements as well as construction revenue from stations we build, which provides visibility out for roughly 12 months.

The net effect of these two key business segments provides recurring stable earnings and cash flow, which dampens our overall corporate volatility from changing environmental credit markets. With that, I’ll turn it back to John and Adam for concluding remarks.

Adam Comora: Thank you, Ann. In closing, we believe our future is bright. We continue to add new projects and advance projects through our development funnel into operations with accelerating growth in gas production and distribution. While the world around us continues to lean into this sector, we are continuing to carry forward OPAL’s vertically integrated mission to build and operate best in class RNG facilities that deliver industry leading, reliable and cost effective RNG solutions to displace fossil fuel and mitigate climate change. And with that, I’ll turn the call over to the operator for Q&A. Thank you all for your interest in OPAL Fuels.

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Q&A Session

Operator: . Our first question comes from Derrick Whitfield of Stifel.

Derrick Whitfield: Good morning all and congrats on a successful first year as a public company, and certainly in a difficult operating environment. For my first question, I wanted to lean into your prepared comments on the progression of your backlog both near term and medium term. For 20 23, it appears that Emerald, Prince William and Sapphire projects are all progressing along the schedule you laid out in Q3. Looking beyond 2023, could you place some parameters on the amount of project capacity from your advanced development pipeline that could be placed in production in 2024 based on the improving operating conditions you are experiencing?

Jonathan Maurer: So we have advanced development pipeline of a little over 8 million MMBtus of nameplate capacity of gas available. And as we continue into 2024, we see our dairy projects and the Northeast landfill project that we placed into construction last year coming online. Because of gap in projects going into construction, there will be fewer coming online next year beyond that. But the projects that we placed into construction this year will go online in about 18 months or so, would be your average construction time frame from commencement of construction until you start seeing the gas production, could be a little faster, could be a little bit slower. So we will see gas from the projects that are going online this year continue to increase our output during 2023 and 2024 as those projects come online. And then we will see the projects putting into construction this year start to contribute during the — really late 2024, 2025 timeframe.

Adam Comora: I think the only thing I would add there is, obviously, we will have a full year production in €˜24 on the Emerald project that goes in, in a couple of months and you will also get a full year output from the two in the later half of this year, and that’s really visible growth and accelerates production from ’23 into ’24.

Derrick Whitfield: And then as my follow-up, I wanted to focus on the implications of the IRA to your business. Referencing Slides 13 and 14, you arguably have more optionality in your portfolio than ever before as a result of the IRA. As you assess your RNG, eRIN and hydrogen opportunities, how does the eRIN pathway impact your view on the allocation of capital between RNG and electricity with the understanding that the time and likely your friend based on the growth of EVs relative to landfill gas? And then more specifically for 2023 guidance, could you comment on the degree of ITC embedded in your projections?

Adam Comora: I’ll let Ann handle the ITC one first, and then I’ll talk a little bit about some of the regulatory stuff happening, both in terms of IRA and eRIN pathway.

Ann Anthony: So as I had commented, I think given the fact that we’re still waiting for additional guidance from treasury, which we expect to come most likely in Q2, we’re being a little circumspect in terms of the specific amounts and details of what we’ve included in adjusted EBITDA for ITC. I think we are making some underlying assumptions, obviously, about the projects that are in construction and that we’ll COD this year. But beyond that, I think at this point we’re not really ready to disclose much more than that.