Sky Harbour Group Corporation (AMEX:SKYH) Q3 2023 Earnings Call Transcript

Sky Harbour Group Corporation (AMEX:SKYH) Q3 2023 Earnings Call Transcript November 14, 2023

Operator: Good day, everyone. My name is Chris, and I’ll be your conference operator today. At this time, I would like to welcome everyone to the Sky Harbour 2023 Third Quarter Earnings Call and Webinar. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. If you’d like to ask a question, simply submit the question online using the webcast URL posted on our website. Thank you. Francisco Gonzalez, Chief Financial Officer, you may begin.

Francisco Gonzalez: Thank you, operator. I’m Francisco Gonzalez, CFO at Sky Harbour. Hello, and welcome to the third quarter earnings equity investor conference call and webcast for the Sky Harbour Group Corporation. We’ve also invited our bondholder investors and our borrowing subsidiaries, Sky Harbour Capital, to join and participate on this call as well. Before we begin, I’ve been asked by counsel to note that on today’s call, the company will address certain factors that may impact this year’s earnings. Some of the information that we will be discussing today contains forward-looking statements. These statements are based on management’s assumptions, which may or may not come true and you should refer to the language on slides one and two of this presentation, as well as our SEC filings for a description of the factors that may cause actual results to differ from our forward-looking statements.

All forward-looking statements are made as of today and we assume no obligation to update any such statement. So now let’s get started, introducing the team with us this afternoon, Tal Keinan, our CEO and Chairman of the Board; Mike Schmitt, our Chief Accounting Officer; Tim Herr, our Treasurer; and Tori Petro, our Accounting Manager. We have a few slides we want to review with you before we open up to questions. These slides have been filed in Form 8-K with the SEC this afternoon and will also be available on our Web site after this call. You may submit written questions during the webcast using the Q4 platform and we’ll address them shortly after our prepared remarks. So let’s get started. Next slide. This slide is a summary of the Q3 results in the context of the trend of the past two years for selected metrics.

First, in terms of capital invested in hard assets, our three completed campuses and construction in progress in Phoenix and Denver surpassed the $120 million mark in the third quarter. With our two recently opened campuses in Nashville and Miami nearing full leasing, Q3 revenues reflect the step function increase in our rent to own fuel commission revenues. I should note that as disclosed in our 10-Q filing, Q3 revenues included about $400,000 in nonrecurring revenues, primarily arising from a negotiated settlement with one tenant who had leased two hangars in Miami. We will discuss more on this shortly when reviewing our leasing activities. Looking ahead, we expect this step function revenue phenomenon to continue as we open new campuses and the next step is expected to occur in Q2 and Q3 of next year as Phoenix and Denver campuses open and tenant leases there start cash flowing.

Our operating expenses and SG&A are semi fix to fix and we continue watching our expenses and maintain frugality whenever possible. Consolidated net cash flow from operating activities is approaching breakeven, as you can see in the lower right hand quadrant, something that we expect to surpass next summer after Phoenix and Denver campuses open. This is earlier than our original indication of reaching and surpassing breakeven at the end of next year. Next slide. In terms of rentable square footage, we continue to make significant progress in securing new ground leases. Last one announced last month at Chicago Executive Airport, a great location by the way for our home basing services. As we have previously disclosed, we expect to execute another two ground leases before the end of the year and another three by the end of the second quarter of 2024.

The value of our business is not backward looking, putting the projects in the pipeline in front of us. Once the ground lease is executed, we believe the value creation for our shareholders is effectively locked in and it’s all about execution thereafter. With this summary of results, let me pass it to Tal Keinan, our CEO, for an operating update, Tal?

Tal Keinan: Thank you, Francisco. I’m going to go quite quickly here, because the 8-K filings are available and I want to leave room for questions. Briefly, the way we think of our business is in the following silos, site acquisition, development, which now includes both manufacturing and construction, leasing and airfield operations. I’ll give a brief overview of what’s happening in the market, some of our lessons learned from the last quarter and at the end, we’ll talk a little bit about business strategy going forward. Next slide please. So site acquisition, I think it’s important and you’ll see when we get to lessons learned to think about site acquisition in terms of throughput versus cycle time. There is a relatively long gestation period and it can be quite [varied] high standard deviation of gestation period from beginning work on our target airport to actually executing a ground lease.

But we have many dozens of these in process and that kind of big bulge began to be developed about 18 months ago. And I think one of the things that we’re seeing right now is the fruits of that. So airports are starting to pop. As people note sites in operation, Houston, Nashville, Miami, in development is Phoenix, Denver, Dallas and permitting is Chicago. We’ve got two new ground leases that we expect to be announcing this quarter and an additional three ground leases in the first half of next year. Next slide please. So development, again, now includes manufacturing and construction since the acquisition of RapidBuilt. We are in the process of integrating RapidBuilt. The first two fields, which will feature pre-engineered metal buildings by RapidBuilt are Denver and Phoenix.

You can actually see those pictured on the right side of the screen, top end middle. Our ambition for RapidBuilt is to continue improving on the quality of our build. We think we have the highest quality headroom business aviation already and that’s improving all the time. The fact that we have a rapid prototyping loop with our own manufacturing capability we think is accelerating that. And then secondly, bringing our costs down as we scale. I won’t go through the chart at the bottom. Again, it’s available in the filing but happy to refer to it in Q&A, if there’s interest. Next slide please. So leasing, I think where we are today, if you could look at the roster of Sky Harbour members, which is how we refer to our tenants, you’d see some of the savviest names in business aviation with us.

We were at a stage where we feel like we’re moving from an experimental concept that we have to explain a lot about our value proposition to something that has a very clear and understood value proposition. Current occupancy is what you can see here. We are now beginning a branding program, which starts with a few member evangelists, people who’ve been with us — nobody’s been with us for a long time, we’re still relatively new, but members who’ve been with us for a year or more who are beginning to evangelize. You’ll see some announcements soon, including some public personalities that we hope will increase awareness in the business aviation community of Sky Harbour and of our offering. One of the things that you’ll see if you look closely.

We are experiencing the first leases coming to term. As you know, we stagger our lease terms from one year to 10 years. We’re seeing our first leases coming to term. And the reups, whether it’s a tenant staying with us or bringing in a new tenant into the hangar has been occurring at a very significant premium to the original lease rate. So as people who have followed us closely know, we have CPI escalators in the leases. But when lease terms end and we re-lease, we’re experiencing much bigger jumps. In one case, a new tenant came in at a close to 20% premium to what the original tenant was paying. So that’s on leasing. Again, we’ll come back to that, in Q&A. Next slide please. Airfield operations, number one priority for us in operations is safety.

So happy to report, we have not had experienced any safety incidents in Q3. We also have had no service gaps. We do a pretty rigorous tenant survey for service gaps. And what we’re finding is tenants are delighted. We do have a very intimate relationship with many of our members and that feedback is quite important to us. So we work with them to constantly improve the offering and the service offering has been significantly refined as we go and we expect for that to continue. But as we get to lessons learned, we’ll talk about it. The one attribute that we’re focusing on right now is time to wheels up. We are already offering the shortest time to wheels up in business aviation and that’s something we want to make consistently shorter. It’s something that’s measurable, very, very critical to our members.

Again, we could talk about that over time. New services, as I think some people on the call know, we began offering detailing services. We don’t actually provide the services through a third party partner, but there is a whole array of revenue producing services that we intend to roll out over time. It’s not our focus today, it will happen at the pace that it happens right now. Growth is expanding — our footprint is the focus, but happy to talk about that in Q&A if there’s interest. Next slide please. Briefly on the market landscape, so we’re still seeing very significant tailwinds. And remember from our perspective, we’re not an FBO company, we are really indifferent to fuel volumes. We don’t care so much how much people fly. We care how many airplanes are in the fleet or actually more precisely we care about the square footage of aircraft in the fleet.

And what we’re seeing right now is record backlogs at the OEMs. And remember each year, the average aircraft that’s delivered has a longer length, a wider wingspan and a taller tail height. So the square footage of the fleet is growing up and it’s going up much faster than the actual number of aircraft in the fleet. And as technology improves over time, the useful life of an airframe also grows. Put those factors together and you have a hangar deficit that is getting much more acute. I think we’re not the only ones observing that but I think we’re the ones that to it matters the most. Once an aircraft gets delivered, it is in the market whether it’s flying a lot or not flying a lot, it needs a place to live. In terms of competitive landscape, we still have not seen a company that does exactly what Sky Harbour does.

There’s been significant consolidation in the aircraft — in the FBO industry under the umbrella of Atlantic and Signature Flight Support, which again if we have time in Q&A, we’ll talk about why we think that’s been a positive for Sky Harbour. And importantly, increasing demand from airports, we are experiencing now pull from the airports. For the first couple of years of our company’s existence, it was mainly us trying to communicate the value proposition of a Sky Harbour campus to an airport sponsor. Increasingly, we’re seeing airport sponsors reach out to us. We have a service that is differentiated, it doesn’t exist and it’s something that’s in high demand from airports. And just a couple of quotes, below one from an airport sponsor and one from one of our members, to give people a sense of how we see the value proposition kind of congealing.

Next slide please. Very briefly on lessons learned from the last quarter. So again, site acquisition, throughput versus cycle time, we are increasingly setting our corporate goals in putting our corporate goals in terms of throughput rather than cycle time and I think that is the way to run this. We talked about the articulation of the value proposition to airport sponsors. Again, we don’t have a marketing and branding program in place yet that is on the agenda for 2024. And part of that will be to articulate to airport sponsors, also the tenants, but airport sponsors our value proposition in a much more concise and targeted manner. We’ve got a team that continues to expand. We think we have a formula that works for us. We don’t recruit out of the FBOs for site acquisition.

The FBOs really grow through M&A. We don’t do that. We’re greenfield. And we’re really inventing this methodology as we go. I think we have something quite robust right now but we continue to refine it. And what we’re finding is military veterans out of MBA programs are the formula and that is the entire site acquisition team, which continues to grow heavily dominated by the Navy, but not only anymore. On development, the integration of manufacturing construction is a challenge that is taking time. I don’t know exactly what inning we’re in on that. I would say it still feels like 4th inning, it’s not eighth inning. So we do have work ahead of us on integrating RapidBuilt and our construction efforts around the country. But again, we expect very considerable benefits once that is integrated.

Member leasing. So again, 2024 is the year that we brand ourselves. We want to be able to articulate the value proposition to the right population of members. We’ll talk a little bit later perhaps about the recent investment into Sky Harbour by some of these members and how we see that as helping us communicate it within that community. We talked about re-leasing and term management. Again, that idea of staggering lease terms from one year to 10 years was originally about risk management and not having too many leases come to term in a given year that certainly helped. One of the benefits that we were reaping from that perhaps unintentionally is that re-leasing bump, the premium. When you only have one hangar or two hangars in the market, I would say, it’s just a matter of supply and demand.

You’re able to command a real premium versus our original lease up of a campus where you have really very high inventory, much more inventory than anyone’s ever put on the market in one shot. So your pricing leverage is significantly higher on the re-lease terms. And then on airfield operations, as I said earlier, the metric that we’re optimizing for now is time to wheels up. There are a lot of other metrics but that is the primary one. And again, if we have time in Q&A, we can talk a little bit about the differentiated service offering. Back to you Francisco.

Francisco Gonzalez: Thank you, Tal. Let’s quickly review our liquidity and capital position. We closed the third quarter with about $130 million in cash and US treasuries, there is about a $20 million decline from the prior quarter, reflective of our continued investment in CapEx. Our portfolio of US treasuries is very short and is managed by our Treasurer, Tim Herr, sitting here next to me. We continue to earn north of 5% as we roll our cash in three and six month US treasury bills, waiting to be invested into new hangars. In the meantime, we earned more cash [Technical Difficulty] our debt that funded it, and we’re preparing the required rebate analysis as required by the IRS. The right hand of the slide depicts our bonded debt composed of $166 million in 4% and 4.25% coupon fixed rate private activity bonds.

These bonds have no principal amortization for the next 80 years and we have prepaid into escrow the interest due through the middle of 2025. With a final maturity of 31 years and an average life of over 20 years, these bonds constitute permanent capital for the company. Talking about permanent capital, please next slide. As many of you know, we closed last November 2nd on $42.8 million pipe of common stock with the participation of over 40 accredited investors through Altai Capital. The investor group includes marquee names in investment management and family offices of ultra high net worth individuals. Besides funding us with growth equity capital, many of the new investors are users of business aviation and we look forward to having them potentially as tenants in the future.

Next slide please. This next slide illustrates capitalization and unit economic scenarios at various potential sizes for the company’s airfield portfolio. Until the recent pipe, we were fully funded on our existing six announced campuses. Now and with the expected close on number 30th of additional up to $50 million of the second closing of the pipe, we will be fully funded for 12 campuses, the lower column on the chart. Or the first six campuses and the — of the obligated group and the first phases in another 10 to 12 additional sites for a cumulative presence in 16 to 18 airports. Again, one could — we usually divide campuses between Phase 1 and Phase 2, so we can either do an additional — we’ll be doing additional six airports or we could do additional 10 to 12 airports just Phase 1.

This also assumes we also pair the new equity with anticipated debt financing as illustrated here. We continue to target 13% to 15% in our unlevered NOI yield or yield on cost, which married with our tax exempt leverage yields approximately 30% plus pre-tax levered returns on project level equity. Please note that as we move from 12 airports to 20 airport scenarios, we will expect the unit economics to be enhanced as the next 12 airports on average are expected to be more profitable that our first six. In a couple of years, as we move from 20 airports to 40 and 50 airports, we expect the margin for the yield cost to come in a bit as we prosecute our business model within lower yielding markets. Yet, other things equal, the strength of our borrowing program and the potential to achieve investment grade bond ratings in 2025 will support increased leverage and lower debt cost.

This will help offset the recent increase in overall market interest rates, and the expected lower NOI yields of these fields in the future will still allow us to continue to yield 30% plus levered project pre-tax ROEs. Next slide please. While on the subject of bonds, here is a breakdown of the liquidity at Sky Harbour Capital, our private activity bond borrower subsidiary. We continue to be fully funded for the remaining phases in the original project as amended. Next slide, please. Here’s a summary of the revenues and cash flows at Sky Harbour Capital, otherwise referred to as the obligated group. These figures largely mimic our consolidated results except for holding company SG&A and the impact of outstanding warrants and employee stock award expenses, which obviously occur at the holding company.

Please note the obligated group turned cash flow positive in this past quarter and is expected to continue to move in positive territory as new campuses open. I want to reiterate, especially to our bondholders who are also on this call that as a matter of company policy, we will continue to protect our borrowing [PAPS] program. It is a program, not just in terms of our ability to pay the debt service on time but to manage the program to exceed the debt service coverage we projected at the time of the bond offering in August of 2024, and this is a commitment that we consider sacrosanct. Next slide please. As we discussed in our last webcast, we will continue to manage prudently our funding and seek permanent growth capital opportunistically.

We will use our internally generated resources when needed, raise additional equity at the right share prices, partner with real estate infrastructure funds when appropriate and continue to issue productivity bonds in order to fund on a timely basis our accelerating growth. Let me pass it to Tal for some final thoughts on business strategy.

Tal Keinan: Thank you, Francisco. Yes, we can go back to these Q3 and pictures during the Q&A. You can put up the business strategy slide. Yes, there we go. So again, very briefly and we can get into anything in more detail during Q&A. Site acquisition, we feel like we’re in a very good position, the pipeline is much more robust than we expected it to be and we’re quite excited about that. On the development side, it’s time to go from effective to efficient. We’ve been getting these up safely and with a very good level of quality. We can do it much more quickly we believe and less expensively. And that’s a big part of our acquisition for RapidBuilt and a lot of what we’re doing here. We also have a challenge ahead as the pipeline materializes to scale up on the HR side for development, we’ll be running far more projects in parallel than we are today very soon.

Member leasing, we discussed brand strategy and member ambassadors, stay tuned in 2024 for a rollout of a real branding strategy for Sky Harbour. On airfield operations, so I’d say near term, medium term and long term, the number one priority is going to have to be safety and it always will be. We’re in an industry where that’s in demand, no compromises on that. And we feel very robust programs, both training and monitoring programs to ensure that we operate safely. We are, as we said, targeting specific metrics now on the service side. Time to wheels up is the number one. There are others but time to wheels up is what we believe matters most to Sky Harbour members. And then in the medium term is to begin rolling out third party services. I alluded to one earlier.

The first one that we’ve rolled out now, again, in partnership with a national provider is aircraft detailing, which is going to be in-house, in hangar on all of the campuses with a permanent two person crew on each campus to perform detailing services. Again, there’s a whole roster of services that we will be rolling out, but it’s not top priority right now. Scaling is the number one priority. In general, I think this is a moment in Sky Harbour’s history where we’ve done a lot of experimentation, a lot of learning. We put methods, procedures in place, established a culture that I think is very palpable, to every crew member and everybody who interacts with Sky Harbour. It’s now time to scale and that is what we’re about in the year or two ahead.

Functional integration is one of the areas where we have a lot to improve. We’ve looked at those areas of site acquisition, development, leasing and operations as silos, very important for us to understand interaction between them. And there are all sorts of efficiencies that we can gain through integration between those functions, that’s part of what we’re doing right now. And then we talked a little bit, Francisco spoke a little bit, about our growth capital strategy. We’re in a position where we feel lucky to be able to attract very specific investors into our cap table who can really push the company forward and those are both new tenants and prospective tenants. And with that, I think we’re good to go to Q&A.

Francisco Gonzalez: Thank you, Tal. This concludes our prepared remarks. Operator, please go ahead with the queue.

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Q&A Session

Operator: [Operator Instructions] So our first question is from Michael Diana of Maxim Group, who asks, what is the ranking of Chicago based on rental rates relative to your existing airports and relative to the other five that are under negotiation?

Tal Keinan: I can take that. It’s Tal Keinan. Michael, first of all, thank you for your coverage. I’ve been reading out I find it very rigorous and insightful, and I appreciate that, appreciate the question as well. Chicago will rank number one out of the first seven airports in terms of revenues per square foot. Relative to the airports that are coming online, I would say, we’d still rank near the top but there are two airports that we hope to be announcing soon that will actually exceed Chicago.

Operator: Okay. Our next question is from [Kevin Amirsaleh] who asks, can you give us updates about the lease up rates per foot?

Tal Keinan: So what we can say in general is, I think, you may have noted that we’ve introduced fuel revenues in the last year or so at Sky Harbour. And although we’re not in the fuel business, we’re in the rent business. We understood that it’s important for us to be able to control the entire basing cost of a Sky Harbour tenant, so we’re looking at blended rates right now. So it’s very difficult to say what the average rent was a year ago, what it is today. What I can say is if you take an airport like Miami where we began leasing in, call it, the low 30s per square foot, we’re now leasing in the low to mid 40s per square foot, that should give some indication.

Operator: The next question is from [Peyton Skill] who asks, can you discuss construction delays historically at OPF and currently at ADS, APA? What are the biggest factors in construction delays and how are you mitigating this risk?

Tal Keinan: So I can say one of our biggest issues in 2022 was access to materials. By the way, that’s become a little bit looser. But as you know, we’re in the pre-engineered metal building space, it’s not just hangars that use the pre-engineered metal building components, it’s warehouses, data centers, a lot of other types of construction. And we had real challenges with lead times on orders and things like that. I would say the biggest step we’ve taken to address that problem has been RapidBuilt, so we now manufacture ourselves. Now as I said earlier, there are integration challenges going forward, a lot of that will be ameliorated by having a kind of a constant flow of projects, which is about to happen. So we have a ramp up challenge ahead of us. But once we’re at a kind of a steady state of processing projects in parallel, we believe that gets our cost down.

Operator: We have another question from Michael Diana of Maxim Group. You referred to your new investors as some of the savviest players in business aviation. Can you elaborate?

Francisco Gonzalez: Tal, it’s Francisco, I’ll take that. And again, I’ll reiterate Tal’s comments, Michael, we are very appreciative of the thoroughness of your research coverage on the company. So indeed, the pipe that just closed led by Altai Capital brought together a group of investors that are well known in the technology space and also now that our focus on infrastructure as well. So as we disclosed at the time of the closing of the pipe, 8VC, Raga Partners and certain other family offices that prefer to remain private, very ultra net worth individuals became part of the pipe. And they’re joining our original investors, Boston Omaha, Center Capital and Due West Partners. Again, we are creating a group of long term holders of very savvy investors and who are also very close to business aviation, either because they have planes on their own or their relationships and friends also are active in business aviation.

So we’re looking forward to continue growing this group of investors as we continue to grow the capital base of the company.

Operator: Our next question is from [Peyton Skill]. How do construction costs vary across markets? And what are current and foreseeable initiatives to bring down construction costs and improve ROIC?

Tal Keinan: I think it’s actually an astute question, and that what really varies across markets is revenue, right? It’s like any real estate business, it’s location driven. So construction costs actually don’t vary that much across markets. Now that we manufacture our — everything that goes above ground is manufactured by us, we have much tighter control over that. By the way, that was an issue of timing. There’s a cycle driving construction costs or components for pre-engineering metal building, so less about geography but more about timing. But we’re not finding very meaningful variability in actual construction costs across markets. What does drive construction costs is site work. So we have facilities, one facility that comes to mind that we actually walked away from in retrospect perhaps a mistake.

There was just so much grading to do that it looked to us like it’d be difficult to have a pencil. Again, in retrospect, the revenues are so high in that market that I think it possibly would have absorbed it. But things like grading, drainage that sort of thing can affect construction costs, again, not so much a function of which market you’re in, but just what does a site look like. Once you get above ground though, they’re all quite tight. What can you do? Again, we talked about RapidBuilt a little bit, but I think your question is alluding to this. Fundamentally, it’s about location. The real question is site acquisition. If you’re not going to have that much variability in development costs, it’s really about revenue and now targeting the richest markets in the country.

Operator: Again from [Peyton Skill], it looks like there is more hanger supply coming online at OPF. How this affect SKYH’s rate upon tenant renewal?