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The Evolution Of ‘The Hussman Chart’

Hardly a week goes by without an article like this one by the influential Henry Blodget — One smart stock market analyst thinks this is where we’re headed…(gulp) . Mr. Blodget writes as follows: But anyone who’s feeling comfortable after a strong week in the markets should at least understand that: 1. The macro environment most conducive to crashes is still in place (overvaluation + increasing risk aversion) and 2. The way the market is behaving now is exactly the way it behaved before the biggest crashes in history. So, neither Hussman, nor I, nor you should be surprised if the market keeps on dropping and doesn’t bottom until it’s down 50% or more from the peak. As Hussman noted last week in his usual depressing note , a 50% crash would not even be the worst-case scenario . It would just be a normal correction from valuations we reached in 2015. Featured in the valuation articles is a chart purporting to show very low expected annualized returns for a multiple-year period. The implication for stock investors is clear: Little upside combined with huge risk. It has had a big impact both with individual investors and also my investment advisor colleagues. Background Last week, among several other illustrations of popular investment misconceptions , I included a version of what I will call the “Hussman Chart.” I suggested that if you did not understand the chart, you shouldn’t be using it for your investment decisions. My main point was that people blindly accept conclusions from intelligent sources who use sophisticated methods. Of the dozens of possible illustrations, I included the Hussman Chart. I know that many people sold their stocks some time ago when their investment advisors warned them, producing one of the charts I discuss below. My worst fears were confirmed! Out of the thousands reading the post, only two or three explained anything about the chart – how it was constructed, what it implied, how to think about it. Quite a few people repeated the author’s conclusion. Wow! They understood and accepted the conclusion without any evaluation of the reasoning. Others did not want to be challenged. They wanted me to explain what I thought was wrong with the chart. Readers promptly ignored everything else in the article. Some even concluded (amazingly) that I was stating that I personally did not understand the chart. Jesse Felder, a fellow investment advisor and blogger stated this viewpoint explicitly . His conclusion (without any explanation of the chart): Furthermore, this negative correlation between valuations and forward returns is statistically very high (greater than -90%) and backed by 65 years worth of data. The Buffett Yardstick, as Hussman demonstrates , has been nearly as good as his own version at forecasting forward returns and is backed by roughly 90 years worth of data. Both charts, and the data and reasoning behind them, clearly demonstrate and validate the concept that, “the price you pay determines your rate of return.” Summary Apparently I need to elaborate on the original theme. I will do so by providing examples of “the chart” over the years. The variables, adjustments and time periods change, but the conclusions are generally the same. Each chart has a documented method and stands on its own. Together one gets a different picture. While the method is continually “improved” and the time period changed, there is never a date with destiny. We do not know whether the early versions worked or not. There is no distinction between the time period used to create the method and the “out of sample” period that follows. Here is a summary of the charts below. Date Independent variable Starting point Length of Forecast Adjustments Nov, 2008 Terminal multiple 1950 7 years Oct, 2010 Terminal yield 1944 7 years Aug, 2010 Adjusted forward earnings 1963 10 years Reducing margins Jan, 2011 Normalized earnings 1928 10 years “Normalizing” earnings Dec, 2013 CAPE 1932 10 years Mean-reverting margins Feb, 2016 Non-financial Gross Value Added 1950 12 years World effect, excludes financials The rest of this report will show the evolution of the approach and raise some specific concerns and points that you might wish to consider. [I have never met Dr. Hussman, but I have a generally favorable impression of him. He taught for a bit at one of my schools. (Someday I might learn if he considers himself a “Michigan man.”) He is respected as a philanthropist. His approach is intended to be in the best interest of his investors. Updating his methods and conclusions is a natural part of investment management. He reports his thinking frequently and takes on issues directly. Were this not the case, a review like this one would not be possible. He has built a very successful business and earned a strong reputation. His articles are always among the most popular, especially among investment advisors]. Analysis – the Evolution of “The Chart” First example — How Low, How Bad, How Long? November, 2008 Source Second example — No Margin of Safety, No Room for Error October, 2010 Source Third example — Valuing the S&P 500 Using Forward Operating Earnings August, 2010 Source This quoted explanation illustrates why some might have trouble following the methodology: The two main failures of standard FOE analysis are that 1) analysts assume a long-term norm for the P/E ratio that properly applies to trailing net, not forward operating earnings, and; 2) analysts fail to model the variation in prospective earnings growth induced by changes in the level of profit margins, and therefore wildly over- or underestimate long-term cash flows that are relevant to proper valuation. By dealing directly with those two issues, we can obtain useful implications about market valuation. As I have frequently noted, it is not theory, but simple algebra, that the long-term annual total return for the S&P 500 over any horizon T can be written as: Long term total return = (1+g)(future PE / current PE)^(1/T) – 1 + dividend yield(current PE / future PE + 1) / 2 The first term is just the annualized capital gain, while the second term reasonably approximates the average dividend yield over the holding period. For the future P/E, one can apply a variety of historically observed P/E ratios in order to obtain a range of reasonable projections, but the most likely outcome turns out to be somewhere between the historical mean and median. You have to get two things right: the “normal” future P/E and the prospective long-term earnings growth rate g. Standard FOE analysis misses on both counts. Very simply, looking out over a 7-10 year horizon, the proper historical norm for price-to-forward operating earnings is approximately 12.7. Moreover, one cannot simply apply the long-term operating earnings growth rate of 6.3% (0.063) as an unchanging measure of g. Rather, an accurate growth rate for the model has to reflect the level of profit margins at any point in time, since the current P/E multiple may reflect either depressed or elevated earnings. For a 10-year investment horizon, the proper value of g should take into account the gradual normalization of margins. Historically, the best estimate is approximately: g = 1.063 x (0.072 / (FOE/S&P 500 Revenues))^(1/10) – 1 [Jeff]You should at least be able to understand that the earnings are “adjusted” by a method that is deemed to be appropriate. Fourth example — Borrowing Returns from the Future January, 2011 Source Fifth example — Does the CAPE Still Work? December, 2013 Source Source [Jeff] If you look at this chart and the two above, you will see that the big divergence in the late 80’s has disappeared. Comments on the multi-year growth projections These are points that would be discussed extensively if the research had a peer review. It is necessary to explain carefully both variables, especially making clear when one can evaluate the relationship There should be a sharp distinction between the portion of a chart which is a back test, or an idea fitted to past data, and the “out of sample” data that follows. A multi-year projection has an eventual “date with destiny.” If you are one year away, you can calculate the return that would be needed to make the forecast correct. Think of it as a runner going for a world record in the mile. If he is five seconds off the pace with 100 yards to go, you may safely conclude that he will not break the record. The concept might be extended to more years. If a very negative forecast is in place and the first year or two is strong, it might take a market crash for the forecast to come true. Research Tests This very brief summary is a glimpse of what a solid research design should include. Necessary There should be a hypothesis and a test of the hypothesis. It should be possible to disprove the conclusion. Stated results should not consume all of the data. Desirable It is best to share data, especially when not proprietary. This allows others to replicate the work. (One of the top economics books of the past year included a serious spreadsheet error, discovered because data were shared. It is fairly common in academic circles. Dr. Shiller shares his data, despite the great difficult in develop the historical earnings). It is important to provide a complete description of the methodology. This should include paths not taken and variables that were rejected. It is helpful to show the link (ideally with an update) of past research theses as more evidence emerges. My Own Concerns about the Conclusions Many have asked me why I have not followed this approach in my own investment management. I do not write about it very much because of the work required. Dr. Hussman has a great research budget and team. I have a small staff who are already fully-employed on stock picking and managing our programs. Going back to replicate one of the old charts would be a fair amount of work. I will share my concerns here, but only in abbreviated form. We never seem to reach the point of evaluation. How did these approaches work in the past? The methodology seems to include many of the classic overfitting problems. I am certainly not the first to note this. Philosophical Economics in late 2013 wrote Valuation and Stock Market Returns: Adventures in Curve Fitting. There are adjustments that are not well explained. The earnings are adjusted for expected changes in profit margins, for example. What if this assumption is not accurate? Profit margins are an intense (and separate) debate. The method for adjustment keeps changing – different approaches, coefficients, etc. Over the years, the time frame for the forecast keeps moving, from seven, to ten, and to 12. If you go back to the original Shiller papers, he was using five years. His disciples keep experimenting with different choices. The independent variables change with each new iteration. The overall model always seems to fit. Past discrepancies disappear. The attribution of “bad patches” in results to market overvaluation or undervaluation. This seems backwards. Why is the market wrong and the model right? I am especially bothered by what I see as exaggeration and distortion. What does it add to this discussion to call valuations “obscene?” I find especially distasteful the statement , “The CAPE Ratio id doing exactly what it has always done, which is to help investors anticipate the investment returns they should expect over the next decade. Those returns will very likely be in the low, single digits”. The CAPE ratio is not some wise old friend that has been around for centuries. It was invented only recently and has not worked very well. The claim of historical validation is also completely wrong. What if I told you that the Packers always won at home after a double-digit away loss in a dome? (I made this one up, but you get the idea). It is historically accurate, but does not have any value for predicting the future. Since Dr. Shiller and Dr. Hussman made a lot of specific choices about measuring earnings, past time frames, use of inflation information, and future time frames, their conclusions should be described as a model, not some definitive historical record. It is rather easy to create a view of history that provides a vastly different conclusion. (see The Single Greatest Predictor of Future Stock Market Returns ). It includes this impressive chart. Click to enlarge [Jeff] Similar approach, vastly different result. This is not the only such example. Implications for Investors My most important point is a plea, repeated from last week’s post: Be careful about investing your money using analysis you do not really understand! Whether you share my concerns or not, I recommend a deeper look into these issues, with one of three conclusions: If this leads you to agree with Dr. Hussman, his fund offerings that provide the best balance. I have written that his stock picking is excellent. Investing with him is better than going “all out” on your own because of fear. If the deeper look leads you to disagree, you might consider funds or advisors who take a different approach. If you are not sure, then hedge your investment “bets.” Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

The Southern (SO) Thomas A. Fanning on Q1 2016 Results – Earnings Call Transcript

The Southern Co. (NYSE: SO ) Q1 2016 Earnings Call April 27, 2016 1:00 pm ET Executives Aaron Abramovitz – Director – Investor Relations Thomas A. Fanning – Chairman, President & Chief Executive Officer Arthur P. Beattie – Chief Financial Officer & Executive Vice President Analysts Greg Gordon – Evercore ISI Julien Dumoulin-Smith – UBS Securities LLC James von Riesemann – Mizuho Securities USA, Inc. Ali Agha – SunTrust Robinson Humphrey, Inc. Paul T. Ridzon – KeyBanc Capital Markets, Inc. Mark Barnett – Morningstar Research Paul Patterson – Glenrock Associates LLC Daniel F. Jenkins – State of Wisconsin Investment Board Operator Good afternoon. My name is Benjamin, and I will be your conference operator today. At this time, I would like to welcome everyone to Southern Co.’s First Quarter 2016 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. I would now like to turn the call over to Mr. Aaron Abramovitz, Director of Investor Relations. Please go ahead, sir. Aaron Abramovitz – Director – Investor Relations Thank you, Benjamin. Welcome to Southern Co.’s First Quarter 2016 Earnings Call. Joining me this afternoon are Tom Fanning, Chairman, President and Chief Executive Officer of Southern Co.; and Art Beattie, Chief Financial Officer. Let me remind you that we will make forward-looking statements today in addition to providing historical information. Various important factors could cause actual results to differ materially from those indicated in the forward-looking statements, including those discussed in our Form 10-K and subsequent filings. In addition, we will present non-GAAP financial information on this call. Reconciliations to the applicable GAAP measure are included in the financial information we released this morning, as well as the slides for this conference call. The slides we will discuss during today’s call may be viewed on our Investor Relations website at investors.southerncompany.com. At this time, I will turn the call over to Tom Fanning. Thomas A. Fanning – Chairman, President & Chief Executive Officer Good afternoon, and thank you for joining us. We appreciate your interest in Southern Company. We had another good quarter to begin 2016, a great start to the year, and we are making excellent progress on many fronts. Art will provide an overview of our financial results in just a minute. But first, I’d like to provide you with a brief update of our regulatory calendar in Georgia, and updates on the Vogtle and Kemper projects. As many of you are aware, 2016 is a busy year for regulatory filings in Georgia; an IRP filing, two VCM filings, a merger approval application, a potential rate increase and the Vogtle contractor settlement filing, which has been extended by the Georgia Public Service Commission to review all costs of the project incurred to-date. To summarize, first, Georgia Power filed its triennial integrated resource plan, or IRP, in January. The PSC is expected to vote on the company’s plan this July. Second, the PSC unanimously approved Georgia Power’s 13th Vogtle Construction Monitoring Report in February. And later that same month, Georgia Power filed the 14th VCM Report to be voted on in August. Third, Southern Co. and AGL Resources received unanimous regulatory approval of our companies’ proposed merger from the Georgia PSC earlier this month, with all intervening parties in support of the settlement agreement. Fourth, Georgia Power has agreed to extend its current rate plan until 2019, and to keep base rates flat for the next few years. Fifth and finally, as you may recall in January, Georgia Power filed an application with the Georgia PSC for review of the $350 million settlement with the Vogtle 3 and Vogtle 4 EPC contractors. The Commission voted to move forward with an expanded process which will examine the full project cost and schedule. Consistent with that February order, Georgia Power filed a Supplemental Information Report, which provides compelling support that all project costs incurred to date for Vogtle Units 3 and 4 have been prudent, and that the current cost and schedule forecast is reasonable. The filing includes reports from several subject matter experts, which support that conclusion. Over the next six months, Commission staff and Georgia Power will review this information, which may result in an agreement this fall for the Commission to consider. Let’s move to an update on the construction status of Plant Vogtle Units 3 and 4. The Vogtle 3 and 4 nuclear expansion project continues to progress with multiple milestones achieved in the first quarter. The transition to Westinghouse and its affiliate as the single contractor is complete. Fluor is fully engaged in providing on-site leadership to the construction efforts. We’ve seen increased productivity at the work site, including 24-hour coverage in critical path areas of the project. Expected near-term milestones include the placement of the final large construction modules in the Unit 3 nuclear island, CA02 and the 400-ton stainless steel CA03 module. For Unit 4 four, we anticipate setting the CA05 module and getting the five-story, 1,100-ton CA20 module ready for hook later this summer. Now let’s turn to an update on the Kemper County project. We’re making good progress on modifications and improvements to the refractory lining of both gasifiers, and addressing issues identified during the initial fluidization and refractory cure-out on Gasifier A. We are also in the process of remediating issues with the lignite feed and drying systems as we approach testing of the gasifier using lignite. In March, we completed the refractory cure-out of Gasifier B, reaching full operating temperatures while successfully operating the gasifier in pre-lignite feed mode. Over the next couple of months, utilizing Gasifier B, we expect to achieve first syngas production, and later this summer, initial power production using syngas. We continue to estimate an in-service date for the entire facility in the third quarter of this year. Reflected in the financial results we released today, we have recorded additional dollars to account for the projected schedule cost through September largely to accommodate the revised schedule for Gasifier A. I will now turn the call over to Art for a financial and economic overview. Arthur P. Beattie – Chief Financial Officer & Executive Vice President Thanks, Tom. As you can see from the materials we released this morning, we had solid results for the first quarter of 2016, reporting earnings of $485 million, or $0.53 per share, compared with earnings of $508 million or $0.56 per share in the first quarter of last year. First quarter results for 2016 include after-tax charges of $33 million related to increased cost estimates for the construction of Mississippi Power’s Kemper County project. First quarter results for 2015 included after-tax charges of $6 million for the Kemper project. Earnings for the first quarter of 2016 also include after-tax charges of $14 million related to the proposed acquisition of AGL Resources and PowerSecure International. Excluding these items, Southern Company earned $532 million, or $0.58 per share, during the first quarter of 2016, compared to $514 million, or $0.56 per-share, in the first quarter of 2015. The major earnings drivers year-over-year for the first quarter of 2016 included retail revenue effects across all our regulated operating companies, and lower nonfuel operating and maintenance costs, offset by mild weather and higher depreciation expense. Southern Power also contributed positively year-over-year as a result of anticipated benefits from renewables projects expected to be in service in 2016 and increased revenues from renewable projects placed in service in 2015. Moving now to an economic and sales review for the first quarter. Economic growth in the first quarter of 2016 was modest and our retail sales results are encouraging. Total weather adjusted retail sales grew 0.4% in the first quarter, led by strong residential sales, which were up 1.4% for the quarter. Growth in our residential class continues to be driven by strong customer growth as a result of faster population growth compared with the rest of the nation. Regional market fundamentals are strong, and we expect our regional economy to outpace the national economy. The housing sector appears poised for a modest uptick, and the economy continues to add jobs at a decent pace. Residential construction spending continues to grow, driven by the integration of millennials into the workforce. Atlanta added the most new apartments in the nation in 2015, and even more units are expected to come online in 2016. Nationwide, Atlanta’s multi-family forecast is second only to that of Brooklyn, New York. Weather adjusted commercial sales were up 0.8% for the first quarter. This marks five consecutive quarters of positive growth in commercial sales, and we expect to continue this momentum into the second quarter. Atlanta’s office market vacancy rate was 16.2% at the end of 2015, the lowest rate since 2008. This marks a move from absorption in existing properties to accelerated new office construction. Industrial sales were down 1% in the first quarter. Our regional manufacturing sector continues to adapt to weak demand, and U.S. dollar remains a challenge for export-oriented businesses. I think it’s significant to note that some of our largest industrial segments experienced maintenance outages during the first quarter. We expect them to return to operations soon, supporting our positive outlook for stronger industrial sales for the remainder of the year. We are also encouraged by certain economic indicators that suggest an improving industrial production outlook. The ISM Manufacturing Index increased to 51.8% in March, signaling a prospective expansion in industrial production for the first time in six months. New orders in production improved for a second consecutive month, with new orders posting the largest monthly gain since 2009. Manufacturing employment in the U.S. declined in March, but our service territory has experienced a strong rebound with manufacturing employment up 1.8% year-over-year. All four of our states posted manufacturing job gains. Four of our 10 largest industrial segments saw increases in sales year-over-year. Paper and transportation, along with lumber, stone, clay and glass, led the way, largely attributed to a continued recovery in the housing sector. Our economic development pipeline continues to be strong. There has been a 69% increase in year-to-date jobs announced compared to the same period in 2015. We have also seen a 19% increase in the year-to-date capital investment announced compared to that same period in 2015. The geographic region we serve continues to attract businesses that are seeking well-established transportation networks, lower cost of living, a capable workforce, attractive climate and low-cost energy. Before turning the call back over to Tom, I will briefly cover three final items. First, our earnings estimate for the second quarter. We estimate that Southern Co. will earn $0.70 per share in the second quarter of 2016. Secondly, I’d like to highlight our dividend announcement last week. Our Board of Directors approved a $0.07 increase in our common dividend to an annualized rate of $2.24. This is our 15th consecutive annual increase and marks 68 years, dating back to 1948, that Southern Co. has paid a dividend to its shareholders that was equal to or greater than that of the previous year. But the decision to increase the dividend isn’t about the past, it’s all about the future. It’s the strength of our underlying franchise, together with our continued focus on remaining an industry leader through innovation that underpin the board’s decision to support our objective of providing superior risk-adjusted total shareholder return to investors over the long run. I would like to note that with the five-year extension of bonus depreciation, our expected cash coverage of dividends is approximately 10% higher than before the extension and 20% higher than our recent historical average. Finally, I want to provide an update on our financing plan. The year is off to a great start. We completed a $1.2 billion syndicated term loan for Mississippi Power in the first quarter. This term loan provides much needed liquidity to Mississippi Power. Also in the first quarter, Georgia Power became the first retail regulated utility in the U.S. to issue green bonds. In doing so, they follow Southern Power, which became the first investment-grade power producer in the U.S. to issue green bonds last November. Demand for both of these green bond offerings exceeded our expectations. As we look ahead, executing our holding company financing plan is a key priority. This plan includes issuing approximately $8 billion of debt and a minimum of $1.2 billion of – in equity in 2016. Our internal plans, which were deployed last fall, have generated approximately $270 million so far this year. We will look to supplement those plans with additional common equity, and we are taking steps to preserve several options for achieving this. We expect to issue the debt in most, if not all, of the equity in advance of closing the AGL Resources transaction. While these issuances are intended to accommodate all of our holding company needs for 2016, our financing needs could increase to the extent that incremental investment opportunities present themselves, including Southern Power growth projects. Southern Co. is committed to maintaining a high degree of financial integrity, and our financing plans are intended to support our current credit ratings. I will now turn the call back over to Tom for his closing remarks. Thomas A. Fanning – Chairman, President & Chief Executive Officer Thanks, Art. Following a successful and eventful 2015, Southern Co. has entered 2016 with strong momentum. Our franchise business continues to perform at a high level, solidifying our position as an industry leader in all phases of the business. We are seeing continued progress on major capital projects, and our customer focused business model continues to serve us well. Our pending merger with AGL Resources is progressing through the approval process. The proposed merger has been approved by AGL Resources’ stockholders and the Federal Trade Commission. And we’re making good progress with relevant state approvals, and we continue to expect the transaction to close in the second half of this year. We are also excited about our pending acquisition of our PowerSecure International. Subject to the PowerSecure shareholder vote on May 5, we expect to close in the second quarter. PowerSecure is a premier provider of distributed infrastructure, offering primarily commercial and industrial customers, innovative solutions to meet their individual reliability, energy efficiency or green objectives. Our business model has traditionally focused on making, moving and selling energy, predominantly in front of the customer meter. PowerSecure accelerates our opportunity to extend our make, move, and sell business model to the other side of the utility meter as innovative new technologies emerge and customers’ need evolve. In conclusion, we believe Southern Co. is well positioned for continued success in 2016 and for years to come. Bolstered by the strength of our 26,000 employees and their commitment to provide clean, safe, reliable and affordable energy to customers and communities we serve, we are enthusiastic about the future. We are now ready to take your questions. Operator, we’ll now take the first question. Question-and-Answer Session Operator Thank you. One moment please for our first question. Our first question comes from the line of Greg Gordon with Evercore ISI Team. Please proceed with your question. Thomas A. Fanning – Chairman, President & Chief Executive Officer Hello, Greg. Greg Gordon – Evercore ISI Hey, guys. Good afternoon. Arthur P. Beattie – Chief Financial Officer & Executive Vice President Good afternoon. Greg Gordon – Evercore ISI So the financing plan with the $1.2 billion of equity, $930 million remaining this year, should we presume that’s the totality of the equity that you envision needing to fund the AGL deal? Because when I look at the 2017, 2018 projected financings, you have no equity there. Arthur P. Beattie – Chief Financial Officer & Executive Vice President That’s the plan, Greg. I did say in the script that should there be additional opportunities either from Southern Power or other accretive investments, that we would finance those plans or any of those additional investments with a balanced – with an eye towards maintaining our credit support. Thomas A. Fanning – Chairman, President & Chief Executive Officer Yeah, and, Greg, the other thing that Art alluded to a wee bit, but I think we talked about it on prior calls, that we had a – I forget. For Southern Power, I guess we have $1 billion of CapEx in 2017. We’re seeing probably more – a larger opportunity set to increase that number in 2017. So as Art said, to the extent we do see further investment opportunities, we will be supportive of our credit ratings in that. Greg Gordon – Evercore ISI Okay. Because you have Southern Power at $1.2 billion this year, and then you have that drop into $500 million in 2017 and 2018 on slide nine. You’re saying that you could theoretically be double that? Arthur P. Beattie – Chief Financial Officer & Executive Vice President Well, it’s hard to say what multiple it would be. We just have, as Tom said, opportunities for success. Thomas A. Fanning – Chairman, President & Chief Executive Officer Yeah, Greg, I’ll go to the CapEx. In CapEx, I think we’re showing that we were $2.4 billion this year in CapEx for Southern Power, and $1 billion next year and $1.5 billion in 2018. I’ll bet you, we’ll be bigger than that in 2017 and 2018. That would just be my guess right now. Greg Gordon – Evercore ISI Got you. And is this mostly in utility scale solar or is it a mix of solar, wind, and other sort of – type of generation? Thomas A. Fanning – Chairman, President & Chief Executive Officer Yeah, it’s going to be more of a tilt towards wind if you were going to make a projection on that. But we’ll have solar in there, for sure. As you remember, we had a lot of success in 2015, way beyond what we thought. Some of those are CapEx numbers that will show up in 2016. Some – and remember, now that we’ve had the extension on the tax preference item, some of that could push over into 2017. So you’ll still see solar, you will see more wind than we’ve traditionally done in the past, would be my guess. Greg Gordon – Evercore ISI Got you. Got you. I was looking at the wrong slide. I should’ve been on slide 16, sorry. So the – and you guys talked about a sort of a $300 million earnings contribution from – on the last earnings call from… Thomas A. Fanning – Chairman, President & Chief Executive Officer Southern Power. Greg Gordon – Evercore ISI …Southern Power this year. Thomas A. Fanning – Chairman, President & Chief Executive Officer Yeah. Greg Gordon – Evercore ISI And you sort of weren’t certain whether that was a sustainable level of spending, but you seem much more confident now than you were on that last call relative to this – am I implying too much there in terms of the sustainability of the earnings contribution with Southern Power given this CapEx outlook? Thomas A. Fanning – Chairman, President & Chief Executive Officer Yes. So remember, it’s hard to track because you’ll spend money and then net income will show in a current year. I wouldn’t go overboard on CapEx contribution and one – mean net income contribution in one year equaling net income in the next year. What I will say is I am reasonably confident that we’re going to spend more CapEx, and therefore, you should see net income contributions be a little bit better, and recall, than what we’ve had in our kind of base case. And what you recall is to the extent there is more of a tilt towards wind, those are kind of 10-year production tax credits as opposed to the single shot you get from solar. So the net income profile following that CapEx investment will look a little different. Greg Gordon – Evercore ISI Okay. Thomas A. Fanning – Chairman, President & Chief Executive Officer Overall, we’re seeing a very bullish market for Southern Power. Greg Gordon – Evercore ISI Awesome. One more question, then I’ll cede the phone. Can you talk about the earnings ramifications of the deal, the AGL settlement in Georgia for Georgia Power? Thomas A. Fanning – Chairman, President & Chief Executive Officer We expect Georgia Power to perform consistently with the past. It’s going to be a lot of hard work, but Art got some data, but I think, look, when we see Georgia, probably among all the states in the Southeast, seven, eight dynamite kind of relative economic performance, and I think Georgia has traditionally shown that they’ve been able to hit their targets in all levels of performance; operations, customer satisfaction, safety, including earnings. And I think Paul Bowers that runs that business and his team has shown their ability to hit their target very well. We think it is manageable. Arthur P. Beattie – Chief Financial Officer & Executive Vice President Yeah, Greg, I think it’s important to note that the Vogtle NCCR tariff will remain in place. So that will – that’s not part of the rate extension plan. With the economy being very strong in Georgia, with no major capital additions such as new environmental needing recovery, they think that the rate plan extension is manageable during that timeframe. Greg Gordon – Evercore ISI Fantastic, guys. Have a great day. Thomas A. Fanning – Chairman, President & Chief Executive Officer Yeah. You, too. Thanks. Operator Our next question comes from the line of Julien Dumoulin-Smith with UBS. Please proceed. Thomas A. Fanning – Chairman, President & Chief Executive Officer Julien, how are you? Julien Dumoulin-Smith – UBS Securities LLC Good. They got my name right there. Thomas A. Fanning – Chairman, President & Chief Executive Officer (24:48) I don’t know. At least I got it right. Thanks for joining us today. Julien Dumoulin-Smith – UBS Securities LLC Hey. Thank you, rather. So perhaps a follow-up on Greg’s last question, just to hit you with this quickly. Why a little bit more wind in the mix rather than solar? Just to pick on that before going to another thing. Thomas A. Fanning – Chairman, President & Chief Executive Officer Just opportunity set is bigger. I think with the extension of the PTCs, we’re seeing a lot of interest there. I think you also see certain state kind of policy level encouragements. You’re seeing companies getting ahead of the Clean Power Plan. We’re just seeing a good market for it. And remember, as we have shown in our solar business so far, the fact that we can strike good, strategic relationships with developers, you recall the one that we’ve done the most, this is within solar, is First Solar… Arthur P. Beattie – Chief Financial Officer & Executive Vice President And Recurrent. Thomas A. Fanning – Chairman, President & Chief Executive Officer And Recurrent has been a great partnership. We’re starting to strike those same relationships in the wind business. And so we kind of have a favored position to be able to strike large-scale deals. We are seeing that develop. Julien Dumoulin-Smith – UBS Securities LLC Got it. Excellent. And then turning over to the Vogtle side of things just quickly. You talk about, I suppose, a potential for a deal this – agreement this fall. Could you elaborate on what you need to see to get there? Just what are kind of the key milepost, more importantly? Perhaps some of the sticking points or moving pieces? Thomas A. Fanning – Chairman, President & Chief Executive Officer No, this process is set up, and most discussions of this nature are best held in a quiet form. Let the company and the staff evaluate all the evidence in front of them, and come up with what we believe will be a constructive result. That will then get presented to the Commission, the Commission will undertake whatever is necessary to approve it. Julien Dumoulin-Smith – UBS Securities LLC Got it. And then just turning to the PowerSecure deal. Congratulations, moving in a new direction. Just curious, how do you think about that in the context of the earnings of Southern Power and where you want to scale that business? I mean, how should we think about that, call it tomorrow after you close, but then years down the line as part of the growth trajectory? Thomas A. Fanning – Chairman, President & Chief Executive Officer It certainly contributes to our growth trajectory, but it’s a really small deal. Despite its small size, we think it is important for us to learn. See, I don’t really view this as a new business. What I’ve been saying pretty consistently is that this notion of evolving the make, move, and sell, then pass electricity through a meter into where, because of technology enabling, because of customer requirements, think data centers or other customers in the industrial or commercial space which have enormous reliability requirements, which is necessary in this kind of new kind of digital community we find ourselves in, look, I think this is just a natural evolution of – particularly in areas where they are challenged with reliability or price or service, for customers to want us to provide them solutions. So this is – we may do some business in our territory, be glad to do it, we’ll probably do it under the brand of the operating companies, and we had done some of this already. But I think the ability to grow this business, to learn in markets other than our own, will be positive for us all. It will add to our earnings trajectory, I don’t think it will be enormous because of the small size of this thing initially, but I think it certainly enhances our ability to compete in the future. And we’re very excited about it. Julien Dumoulin-Smith – UBS Securities LLC Right. Excellent. I’ll leave it there. Thank you, gentleman. Thomas A. Fanning – Chairman, President & Chief Executive Officer Thank you, my friend. Operator Our next question comes from the line of Jim von Riesemann with Mizuho. Please proceed with your question. Thomas A. Fanning – Chairman, President & Chief Executive Officer Hey, Jim. How are you? James von Riesemann – Mizuho Securities USA, Inc. How are you? Thomas A. Fanning – Chairman, President & Chief Executive Officer Awesome. James von Riesemann – Mizuho Securities USA, Inc. Perfect. Arthur P. Beattie – Chief Financial Officer & Executive Vice President Hey, Jim, buddy. James von Riesemann – Mizuho Securities USA, Inc. Hey. Hey, Art. Can you just talk a little bit about how your thinking is evolving with the equity needs? I know the $1.2 billion, how much of that is broken down between internal plans versus the external dribble? Could you refresh my memory? And at valuations at these levels, why don’t you just go out and issue the rest of the equity right now? Arthur P. Beattie – Chief Financial Officer & Executive Vice President Jim, and I think we’ve said this pretty consistently since the announcement of AGL last August, was that we’ll consider all of our options as we move through. We began with internal programs, but we always have the option in front of us to raise the equity in different ways. James von Riesemann – Mizuho Securities USA, Inc. Okay. Okay. And switching over to the dividend, congratulations on that, but when is it time to actually start bumping up the growth rate instead of just the absolute dollar amount of the dividend? Thomas A. Fanning – Chairman, President & Chief Executive Officer Yeah, we talked about that. I want to say when we announced the AGL deal, given our belief in the growth contribution from AGL, recall, we increased our corporate expectation, our long-term growth rate from 3% to 4% to 4% to 5%. And what we said back then was, of course, this is the purview of the board and it is ultimately their decision, but we saw a pathway to increase the rate of growth from $0.07 in a year to $0.08 in a year. And recall, as Art mentioned in his comments, even since then, because of bonus depreciation and everything else, we are substantially better from a cash flow coverage standpoint than we were. So, the financial integrity underlying that decision even to increase the rate of growth of our dividends has improved since we spoke to you by 10%. It’s over kind of recent historical averages by 20%. So if anything, our ability to do that as measured purely by financial integrity is even higher than what we suggested. So I think we’ll keep it right there for now… James von Riesemann – Mizuho Securities USA, Inc. Okay. Thomas A. Fanning – Chairman, President & Chief Executive Officer …and look forward to the rest of the year. James von Riesemann – Mizuho Securities USA, Inc. Hey, and then one last thing on Vogtle. I know we’re getting a little out of our skis here, but when do you think it’s time to decide whether or not you take bonus depreciation on those two new units? Arthur P. Beattie – Chief Financial Officer & Executive Vice President We are. That’s in the plan. James von Riesemann – Mizuho Securities USA, Inc. Okay. Just making sure. Thank you. Arthur P. Beattie – Chief Financial Officer & Executive Vice President Yeah. Okay. Thomas A. Fanning – Chairman, President & Chief Executive Officer Thank you, sir. Operator Our next question comes from the line of Ali Agha with SunTrust. Please proceed with your question. Thomas A. Fanning – Chairman, President & Chief Executive Officer Ali, good afternoon. Ali Agha – SunTrust Robinson Humphrey, Inc. Good afternoon, Tom and Art. Arthur P. Beattie – Chief Financial Officer & Executive Vice President Hey. Ali Agha – SunTrust Robinson Humphrey, Inc. First question, going into the quarter, you guys have budgeted $0.53 for Q1. You ended up at $0.58. Where would you say things that came out better than your original expectations? Arthur P. Beattie – Chief Financial Officer & Executive Vice President Yes, Ali, it’s pretty simple. You break it down, most – about half of it came out of the operating companies and half of it came out of Southern Power. We announced a couple of new projects on Southern Power that weren’t in the plan at least in terms of the first quarter. And then with the OPCOs, there are a lot of moving parts there. We had, obviously, a headwind on weather. It was $0.02 below normal from an expected perspective, but we offset that with non-fuel O&M and some other moving parts that gave us the other piece of the $0.05 of outperformance. Ali Agha – SunTrust Robinson Humphrey, Inc. Okay. And on that non-fuel O&M, you’ve been fairly consistent talking about that growing, call it, 3% or so on an annual basis. But it was actually down in the first quarter. So how should we be thinking about that from a full-year perspective? Arthur P. Beattie – Chief Financial Officer & Executive Vice President Yeah, I think on the full year, you’re going to see the whole measure of it. In the first quarter of last year, we had a lot of outages going on versus not so many this year. So that’s a big driver. But as you do your plan, I think we’re still in that range of 3% to 3.5% growth. But remember that there’s never such a thing as a normal year of – for non-fuel O&Ms. Thomas A. Fanning – Chairman, President & Chief Executive Officer Right. And just remember, our historic – I mean, ever since, I guess – well, certainly since I’ve been CFO here, so that spans quite a bit of time and even before that a little bit, we’ve always had this ability to – we have a flexible budgeting system here that takes out the volatility of weather. So, we’ve been able – I think we’re one of two companies in history, anyway – there’s no promise for the future – where we have always hit our earnings. Now, again, I can’t promise that or the lawyers will throw me in jail, but we have been able to demonstrate our ability to manage our spending, and at the same time, show industry-leading reliability and customer service kind of statistics. The other challenge, Ali, which is kind of interesting, is as we now have committed to hold Georgia Power’s rates flat through 2019, there is likely to be some impact on O&M. But remember, it’s not going to be done just with O&M. It’s the economic growth. And we believe this all to be manageable. Ali Agha – SunTrust Robinson Humphrey, Inc. Okay. And then, as you pointed out, on a weather-normalized basis, first quarter was up 0.4%. You guys have been budgeting 1.1% for the year. Is that still a good target for the year? Thomas A. Fanning – Chairman, President & Chief Executive Officer Yeah, call it a percent, and we beat our PhDs in Economy here. They’re really good guys here – we have a great staff – beat them up unmercifully getting ready for the call. They absolutely believed that from a bottoms-up analysis, when we look at some of our major customers, particularly in the chemical sector and then some other large sectors, with the outages that were undertaken, as those outages now go away, we’ll see industrial production and sales return to where we thought they would be. Ali Agha – SunTrust Robinson Humphrey, Inc. Okay. And last question, Tom. Can you remind me, the year guidance you have out there, $2.76 to $2.88, had that assumed that AGL would close sometime this year and contribute? And if not… Thomas A. Fanning – Chairman, President & Chief Executive Officer No. Ali Agha – SunTrust Robinson Humphrey, Inc. …does that give you some extra cushion within this year if you close AGL before year end? Thomas A. Fanning – Chairman, President & Chief Executive Officer No, we – yeah, we have evaluated that without AGL. And remember, we said that AGL is kind of an interesting animal for this year. They get most of their earnings in the first half of the year. We’re going to close probably in the second half of the year. So their earnings to Southern won’t be much at all. When we gave you that guidance, that was ex-AGL. So you’ll see AGL start to contribute in 2017 and beyond. Ali Agha – SunTrust Robinson Humphrey, Inc. I see. So coming in perhaps even earlier than expected wouldn’t really move the needle for the bottom line this year. Thomas A. Fanning – Chairman, President & Chief Executive Officer No, I would focus on Southern standalone for this year. And then, we’ll certainly give you new numbers for next year. And we’ve already kind of indicated what the contribution on the margin will be from AGL 2017, 2018, 2019. Ali Agha – SunTrust Robinson Humphrey, Inc. Right. Thank you. Thomas A. Fanning – Chairman, President & Chief Executive Officer Yes, sir. Thank you. Arthur P. Beattie – Chief Financial Officer & Executive Vice President Thank you. Operator Our next question comes from the line of Paul Ridzon with KeyBanc. Please proceed with your question. Thomas A. Fanning – Chairman, President & Chief Executive Officer Hello, Paul. Paul T. Ridzon – KeyBanc Capital Markets, Inc. Good afternoon. Tom, how are you? Thomas A. Fanning – Chairman, President & Chief Executive Officer Super. Hope you’re well. Paul T. Ridzon – KeyBanc Capital Markets, Inc. I am, thank you. It seems as though you’re getting a bigger opportunity set around Southern Power with the renewable. And you’ve kind of talked about this in the past, but what’s the right size from a percentage standpoint of earnings for Southern Power to be? Thomas A. Fanning – Chairman, President & Chief Executive Officer Yeah, so if I remember this right, they are currently around 6%, somewhere around there. We think very easily, we could take Southern Power to about a 10% number. And recall, 10% would include AGL. So the net income contribution could really grow pretty high if you’re just talking about an appetite kind of number. Paul T. Ridzon – KeyBanc Capital Markets, Inc. Okay. So you’ve got some runway there. Thomas A. Fanning – Chairman, President & Chief Executive Officer A lot of runway. Paul T. Ridzon – KeyBanc Capital Markets, Inc. And you said you think Southern Power will do about $300 million of net income this year? Thomas A. Fanning – Chairman, President & Chief Executive Officer Yes. Paul T. Ridzon – KeyBanc Capital Markets, Inc. And then just a little… Thomas A. Fanning – Chairman, President & Chief Executive Officer And the other thing – hey, excuse me, Paul, just real quick. Everybody should just remember that this isn’t a merchant business, this isn’t something that lives and dies in the so-called organized markets. We do long-term bilateral contracts, credit-worthy counterparties, no fuel risk, no transmission risk. This is a credit quality kind of profile similar to our own. Paul T. Ridzon – KeyBanc Capital Markets, Inc. And then just what’s happening in the A-trains and B-trains? What’s the current state, just review that? Thomas A. Fanning – Chairman, President & Chief Executive Officer Yeah, so – yeah, yeah, yeah. So, we’re actually reasonably happy with our progress. The refractory repair on A actually has taken longer, and there’s been a few more things we found with refractory. They’re called – I forget what they call them, rat holes or something like that. But we’ve gone in and evaluated. So it’s really, it – and this is not a high tech kind of operation. It’s just in a fairly closed space, hour-intensive thing. And really, the schedule of A is really what had pushed out kind of from August to September. The schedule of B has been delayed some weeks, but we still believe that we will have syngas and ultimately, electricity this summer. We’re very happy with the way that’s going. Paul T. Ridzon – KeyBanc Capital Markets, Inc. So B has been brought up to temperature and any hotspots have been addressed? Thomas A. Fanning – Chairman, President & Chief Executive Officer Yes. Paul T. Ridzon – KeyBanc Capital Markets, Inc. And then on your prepared remarks, you said something about the syngas, some issues that you found. What’s happening there? Thomas A. Fanning – Chairman, President & Chief Executive Officer I’m not aware of that. I don’t think we’ve – we haven’t made syngas yet. The other stuff that you may be remembering, let me kind of – I’m trying to remember what you’re referring to. Lignite dryers had been one. But that’s been something we’ve talked about for some time, and again, you’ve got to remember the lignite is essentially 40% moisture. So as we move the lignite from the field into the plant, it goes through a process where we essentially remove the moisture. In fact, one of the cool environmental aspects of this plant is that it actually produces water. We capture the evaporation and use it in the plant. One of the feeders for the lignite dryer had blades, if you can imagine, like an old-timey – I always use these metaphors, but it’s like an old-timey, non-power lawnmower where you would push behind it and it would actually feed the lignite into the plant. What we’ve done is expanded the distance of the blades of that feeder that would allow us not to experience clumping and some other thing. So it’s just stuff like that we continue to work through and in a rather pedantic manner. And that’s really what startup is all about. You operate certain areas of the plant and we make improvements where we see capable. Paul T. Ridzon – KeyBanc Capital Markets, Inc. Thank you very much. Thomas A. Fanning – Chairman, President & Chief Executive Officer You bet. Arthur P. Beattie – Chief Financial Officer & Executive Vice President Thank you. Operator Our next question comes from the line of Mark Barnett with Morningstar. Please proceed with your question. Thomas A. Fanning – Chairman, President & Chief Executive Officer Hey, Mark. Mark Barnett – Morningstar Research Hey. Good afternoon, everybody. Thomas A. Fanning – Chairman, President & Chief Executive Officer Good afternoon. Mark Barnett – Morningstar Research I know you can’t talk to specifically about any figures, and you kind of touched on the subject of managing around a settlement at Georgia Power a little bit already. But I am curious, given the size of the annual investment that you’re making there, and again, some of the investments that you’re making for growth. Outside of the nuclear recovery and kind of the other ongoing cost recovery mechanisms, what are your principal levers on the O&M front, on the capital front, for managing under that? Thomas A. Fanning – Chairman, President & Chief Executive Officer So outside of capital, you’re asking what levers would we pull to manage O&M, essentially? Mark Barnett – Morningstar Research Well, O&M, yeah, and outside of capital that you kind of get the more concurrent recovery on. Thomas A. Fanning – Chairman, President & Chief Executive Officer Okay, that’s outside a clause. Mark Barnett – Morningstar Research Right. Thomas A. Fanning – Chairman, President & Chief Executive Officer Okay. Well, so, obviously, I think one of the things anybody would look at in terms of looking at O&M first, as you have seen demonstrated with us in the past, we put an enormous priority on giving for our customers, the best reliability in the United States, and we’ve demonstrated that for years. So one of the areas that we look at is attacking from an O&M standpoint, non-reliability related areas. So that would go to overhead. Any sort of thing in terms of corporate governance or those kinds of things. We think we have some capability to effectively manage reducing overhead inside our financial plan. And that’s both at the parent and at the operating company. Arthur P. Beattie – Chief Financial Officer & Executive Vice President Mark, I think you also need to think about it from a capital perspective, and bonus depreciation will certainly give a little headroom to that opportunity. But as you look forward to 2019, that should be concurrent with the time when Unit 3 of Vogtle comes online, so it all fits pretty nicely into a plan as we move out in time. Mark Barnett – Morningstar Research And could you remind me, with the settlement with Georgia, is there anything in there that you’d have to go back and re-examine, if you had like a timing delay from another approval, or is it pretty much Georgia is kind of set and tied up at this point? Thomas A. Fanning – Chairman, President & Chief Executive Officer If you look at the regulatory calendar and those five items I enumerated earlier, I think we’re pretty well committed to the three-year deferral. And I think that given everything we’ve talked about, we can perform as we have in the past within that construct. I think we’re in good shape in terms of evaluating everything else. The – I think AGL is behind us and Georgia. I think we’re in good shape. Mark Barnett – Morningstar Research Okay. Appreciate that, guys. Thanks. Thomas A. Fanning – Chairman, President & Chief Executive Officer Yes, sir. Operator Our next question comes from the line of Paul Patterson with Glenrock Associates. Please proceed with your question. Thomas A. Fanning – Chairman, President & Chief Executive Officer Hey, Paul. Paul Patterson – Glenrock Associates LLC Good afternoon, guys. Hey, how are you doing? Thomas A. Fanning – Chairman, President & Chief Executive Officer Super, I hope you’re well. Paul Patterson – Glenrock Associates LLC I’m okay. So… Thomas A. Fanning – Chairman, President & Chief Executive Officer Come on, you got to do better than that. Paul Patterson – Glenrock Associates LLC Oh, okay. The sales on slide seven, do those – were those adjusted for leap year or not? Arthur P. Beattie – Chief Financial Officer & Executive Vice President No. Paul Patterson – Glenrock Associates LLC Okay. And then with respect to the changes and everything that’s going on at Kemper, how do you guys – I mean, do you guys still feel comfortable about the 2012 CPCN and operationally being able to bring the plant on – I mean, is there anything that – I mean, I know there are obviously delays and what have you, but in terms of what you’ve seen so far, and I know there’s testing to be completed and what have you. But so far, do you see anything that gives you any pause in terms of being able to have the plant operationally active (45:59) as you guys had planned on? Thomas A. Fanning – Chairman, President & Chief Executive Officer No. Yeah, no. And I think one of the things that I think is distinguished by our operation at Mississippi in Kemper County plant (46:09), sometimes painfully, is that getting it done right the first time is really important to us. We’re not going to rush and try and slam this thing in. And what we will do is essentially demonstrate a reasonable history of reliable commercial operations and then file the rate case. We think that’s the right way to go. And we continue to do everything along the way. So this hasn’t just been, oh, something broke and let’s fix it. We are making improvements along the way. For example, one of the things that we demonstrated beautifully during 2015 is our ability to run that plant on natural gas. It provided, I don’t know, 40% of the energy to the citizens of Mississippi Power – or the customers of Mississippi Power, and did so in an extremely economic way. So as you think about the ability for that plant to provide not only electricity from syngas, but in a dual fuel sort of way to provide a really high level of reliability by supplementing any outages or whatever with natural gas-fired electricity, it’s exceedingly attractive, and in my opinion, more than meets the obligations we’re setting forth when this plant was originally ordered. Paul Patterson – Glenrock Associates LLC Okay. Great. The rat holes and the corrosion… Thomas A. Fanning – Chairman, President & Chief Executive Officer Yes. Paul Patterson – Glenrock Associates LLC …was there – I mean, we’ve heard about this with other similar operations. Is there any issue there that’s changed at all? Thomas A. Fanning – Chairman, President & Chief Executive Officer I mean, we fixed it. But – so remember, there were some gaps from these nozzles. If you can imagine the riser – remember this thing – I always view it as a letter D, is what it looks like. And the riser is essentially where the lignite comes in and then gets blown up into the air in this kind of beautiful helix design. So you have both fuel stock moving into the riser, as well as a very intricate set of air-fired nozzles. What we found in the original fluidization test – even though the fluidization test went beautifully, the nozzles worked well, the material circulated amazingly, and remember, I was there the day it happened. We found that because there was a lack of seals among and between the refractory and these nozzles, some of the material got behind the refractory and the hard face (48:45) and caused what we call these rat holes. But these are really small, really small kind of tunnels, if you will, that were filled up with material. As we had – and the way you fix it is you tear the refractory back off and put it back on. It’s not a high-tech operation. What has taken a lot of time is it’s a confined space and has just been time intensive. And the more we’ve looked around the refractory, we found more of these rat holes, we had to tear more of it off and put more back on. We have not seen, to any sense, that degree of rat holing with B. And recall, I think B finished its fluidization test like in one day. So we learned a lot going from A to B. Paul Patterson – Glenrock Associates LLC Okay. Great. I really appreciate it. Thomas A. Fanning – Chairman, President & Chief Executive Officer Yes, sir. Thank you. Operator Our next question comes from the line of Dan Jenkins with State of Wisconsin Investment Board. Please proceed with your question. Thomas A. Fanning – Chairman, President & Chief Executive Officer Hey, Dan. How are you? Daniel F. Jenkins – State of Wisconsin Investment Board Pretty good. How about you? Thomas A. Fanning – Chairman, President & Chief Executive Officer Terrific. Thank you. Daniel F. Jenkins – State of Wisconsin Investment Board So, just a couple here on the earnings for the quarter. You had the $0.08 positive from the revenue – retail revenue impact. I was wondering if you could break that down a little bit in terms of jurisdiction, or were there specific rate actions and will they lap coming up, or how should we think about that going forward? Arthur P. Beattie – Chief Financial Officer & Executive Vice President If you look at Mississippi, start there, we got a couple cents from the Kemper in-service assets. Alabama had some CNP adjustments of – that I think were related to environmental assets. It’s around $0.03, and then Georgia had a number of adjustments that in total was between $0.02 and $0.03. Daniel F. Jenkins – State of Wisconsin Investment Board Okay. And then on the $0.04 from the non-fuel O&M, I know in the past, you’ve adjusted your discretionary maintenance when – to kind of match when sales are impacted by weather. Is that kind of what’s going on here or is that there’s something else involved? Arthur P. Beattie – Chief Financial Officer & Executive Vice President On a year-over-year basis, there’s lots of moving parts there. But as I mentioned earlier, there was lower other production expenses, there were more outages in the first quarter of 2015 and the first quarter of 2016. There were other expense reductions in, say, our distribution area and then administrative in general, generally relate to reductions and pension expense and some other cost in that particular category. Daniel F. Jenkins – State of Wisconsin Investment Board Okay. And then I had a question on the decline in your fuel costs and revenue. I know – realize that doesn’t have any impact on the bottom line, but just kind of thinking about that, is it – that driven more by volume or price or mix or… Arthur P. Beattie – Chief Financial Officer & Executive Vice President It’s – actually, loads were down quarter-over-quarter from a year ago, but gas prices are down 31% year-over-year as well. So it’s been about… Daniel F. Jenkins – State of Wisconsin Investment Board How about coal? Any impact from coal pricing or transportation or not so much? Arthur P. Beattie – Chief Financial Officer & Executive Vice President I would say it’s negligible. It’s most of the load is being driven by gas at this point, at least in the first quarter. Daniel F. Jenkins – State of Wisconsin Investment Board Okay. And then just a couple questions on Vogtle. I know last year – or last quarter on your near term, you had for Unit 3, the setting the containment vessel ring 2 (52:48), and I was just wondering what the status of that was. Is that upcoming or where are we… Arthur P. Beattie – Chief Financial Officer & Executive Vice President Yeah. I think when you think about Unit 3, the next big things would be CA03 and CA02, which are the kind of the two big remaining modules into the nuclear island for Unit 3. And then I believe the other ring will be added beyond that timeframe. That’s my understanding of the schedule. Daniel F. Jenkins – State of Wisconsin Investment Board And then just on your slide, this time you have for Unit 4, setting the CA05, but I assume that has to – that can’t occur until the CA01 is completed, correct? Arthur P. Beattie – Chief Financial Officer & Executive Vice President No. Don’t get any idea that these are in the order of insertion. CA05 goes in well before CA01. Daniel F. Jenkins – State of Wisconsin Investment Board Okay. And I think that’s all I have. Thank you. Arthur P. Beattie – Chief Financial Officer & Executive Vice President All right, Dan. Thank you. Thomas A. Fanning – Chairman, President & Chief Executive Officer Thank you, sir. Appreciate it. Operator And at this time, there are no further questions. Sir, are there any closing remarks? Thomas A. Fanning – Chairman, President & Chief Executive Officer Yeah. Thank you so much for your time here this afternoon while (54:05) I will wrap this up inside an hour. How about that? That’s historic for a Southern Co. earnings call. Delighted to do it. Off to great start. Earnings are good. Our operations are good, and a lot of work in progress that we look to have some significant announcements on coming up our next earnings call in July. So we look forward to seeing you then. Take care. Operator Thank you, sir. Ladies and gentlemen, this does conclude The Southern Co. First Quarter 2016 Earnings Call. You may now disconnect. Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) 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Avangrid’s (AGR) CEO Jim Torgerson on Q1 2016 Results – Earnings Call Transcript

Avangrid, Inc. (NYSE: AGR ) Q1 2016 Results Earnings Conference Call April 26, 2016, 10:00 AM ET Executives Patricia Cosgel – VP IR Jim Torgerson – CEO Rich Nicholas – SVP & CFO Bob Kump – CEO of Avangrid Network Frank Burkhartsmeyer – CEO of Avangrid Renewable Analysts Andy Levi – Avon Capital Advisors Christopher Turnure – JPMorgan Paul Patterson – Glenrock Associates Joe Zhou – Avon Capital Operator Good morning. My name is Kissie. I would like to welcome everyone to the Avangrid First Quarter 2016 Earnings Conference Call. I would like to turn the call over to Ms. Patricia Cosgel. Patricia Cosgel Thank you, Kissie and good morning to everyone. Thank you for joining us to discuss Avangrid’s first quarter 2016 earnings results. I’m Patricia Cosgel, Vice President of Investor and Shareholder relations. Presenting on the call today are Jim Torgerson our Chief Executive Officer and Rich Nicholas our Chief Financial Officer; Bob Kump, our Chief Executive Officer for Avangrid Network and Frank Burkhartsmeyer, and our Chief Executive Officer of Avangrid Renewables will also be participating on the call. If you do not have a copy of our press release or presentation for today’s call, they’re on our website at www.avangrid.com. During today’s call we will make various forward-looking statements within the meaning of the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Significant factors that could cause results to differ from those anticipated are described in our earning release and filings with the SEC. With that said, I’d turn the call over to Jim Torgerson. Jim Torgerson Thanks Patricia and good morning, everyone and thanks for attending our earnings conference call. We had an excellent first quarter at Avangrid and we had strong performance from all of our businesses. As you can see from our press release, the net income and earnings per share were up 24% to $212 million of net income and $0.69 per share. Now that’s up on a adjusted basis including UIL from 2015. So adjusted EBITDA grew 8% to $575 million and earnings growth in all of our business and we had very strong cash flow. Now this was a result of improvement in operating expense and the revenue decoupling we have at most of the utilities offset some of the milled winter weather. We did have some impacted at Berkshire Gas and Southern Connecticut Gas where the heating degree days were like 10.6% warmer than normal our fewer heating degree days than where would be normal. We did have higher wind production. It was up 13% over 2015, still down a little bit from what we would consider a normal wind production year, but it did help to increase our gross margin by 2.4% over the 2015 first quarter. The other thing we did was we extended the useful lives of our renewable assets and this was looking at component by component. It was down on a worldwide basis by Iberdrola. Based on Iberdrola’s experience and looking at the engineering analysis that we did, so each component we looked at and determine that we were really not depreciating it on an appropriate life and it really needed to be extended and we’ll get into that a little bit. So the first quarterly AVANGRID dividend was $43.2 a share. It was paid on April 1 of this year. And the second quarterly dividend of the same amount was declared by the Board on April 20 and payable July 1. And as a result of what we’re looking in for the rest of this year and into the future now, we expect our payout ratio to be declining a little faster clip and you can see that as of yesterday our dividend yield was 4.5%. 2016 earnings per share outlook now, we’re increasing it to the range of $2.10 to $2.20. Now looking at the first quarter and I’m on Page 7 of the presentation, which is on our website, the first quarter 2016 results were on target. Net income you can see, we had $212 million looking at some of the non-recurring items and we had a non-recurring item by the sale of the Iroquois Gas pipeline, which generated net income about $19 million, but taking that aside we were up 14%, but including that we were up 24% over the previous year’s first quarter. Earnings per share were up again the same amounts, earnings of $0.69 versus $0.56 in the previous year. So some of the things that impacted us obviously the higher wind production and then the extension of renewable asset useful life going from roughly 25 to 30 years and we’ll talk about that in a minute and then the non-recurring sale of the Iroquois pipeline. On the next page, we look at the key earnings and cash drivers, and we pay rigorous attention to the integration that’s been going on identifying planning for best practices in 2016. We’ve been making very good progress. The planning has been completed and it was done on-schedule. We had planned on getting that done by the end of the first quarter, which we did. And then we look at the results for that year. The net income was actually up 7% and weather did have an impact since we don’t have decoupling at Berkshire and Southern Connecticut Gas, but the good thing is those will be put in place since they are required to be implemented in our next rate case. And we have a continuous focus on our operating expenses and minimizing those to the extent we can and are possible. So renewal business, wind production was up 13%, energy prices on merchant projects, it was pretty flat actually down about a 1% and this includes directs along with the prices for energy. The PPA contracts were up about 3% over the previous year’s first quarter and we have included some information on the pricing and actually the roll off of some of these contracts. And when we look at our financial position, we’re in a great financial position with our very strong balance sheet. We’ve low leverage, which we can translate in the low interest cost and our consolidated credit facilities we executed a $1.5 billion credit facility, which is now in place giving us great liquidity on a short term basis that we can use it as we need. Now talking about the extension of the useful life of certain renewable assets, as I said we looked at a component by component basis and we determine that the towers from the transmission equipment that’s in place there, the depreciable life was really in excess of the 25 years. So on average we’ve moved up to about 30-year life for the wind farms that we have and again we have best-in-class technology, operational management and we have the world-wide experience of Iberdrola and based on that experience. We looked at the life of assets, particularly the ones that Iberdrola has in Scotland and recognize that they were useful life was going much beyond the 25 years that we’ve been using. In fact they’ve been in place for over 20 years already and have seen no deterioration. So with this worldwide experience and taking the worldwide view that the assets needed to be extended, Iberdrola across the Board has extended the useful life for renewable assets to about 30 years on average. And so which we also think is consistent with what some others in the industry are doing. Moving on to the merger integration summary, we’re making great progress on that. We launched it last October and that was focused really on day one implementation and in the merger integration planning. The first thing I want to do is to make sure we could operate effectively once the merger was completed, which we did do and did it successfully. The next step in Phase 1 was really to identify the plans and what we needed to do and then get our teams together, we had a dozen teams working on it with over 240 people — 270 people. We had 120 different projects that we looked at and so now we completed that phase and we’re moved into Phase 2. The next steps there are really the project teams are transitioning to implement the integration plans now. That will happen over the next 12 to 18 months as we put these in place, things can be faster, obviously we will do quicker, but a lot of it depends on software changes and integrating different computer software. And then also the thing we’re identifying and executing on operational best practices and aligning outline grid with the global business model where we can and where it makes sense and I think in many areas particularly purchasing, IT, other areas make a great deal of sense in aligning that on a global basis. Day One Readiness as I said was achieved and all the integration projects were on track. For our projections for the planning period, when we had the Investor Day back in February, we talked about a five-year plan. I kind of like to go over some of the aspects of our five-year strategic outlook and the progress we’re making. When you look at the projections, 70% of our investments will be in regulated activity and the other roughly 30% will be related to our renewal business. Adjusted EBITDA in the 2020 year about 26% will come from renewables and about 73% from our networks business. So when you look at EBITDA, 73% are coming from regulated activities, which is very stable and predictable for us. When you look at on Page 12 for Avangrid Networks, when we take a look at the regulatory to legislative and the FERC update we want to go through, the New York trends that was made up of initial three projects. We received FERC approval on March 17. Had a total ROE of 10% and that’s a combination of being an RTO and also having a base ROE. Equity ratio is at 53% and our initial investment is $44 million. We’re implementing settlement right and obtaining an asset transfer order from the New York Public Service Commission. The projects are on track, We expect to have rates in effect on June 1 of this year. The New York Rev, the final track one guidance has been released. The distributed system implementation plan and the benefit cost analysis is going to be filed by each of the utilities at the end of June of this year. And our New York rate case, which involves both our RG&E and NYSEG for both gas and electric rich company, the hearings have been completed. As we said before, we had a settlement that’s now in place. We expect the commission to decide this on May 19 and then the rates to go into place on June 1. For Connect New York, this is a new project that we’re going to be making a filing by the end of this month. It’s a 1,000 megawatt DC underground transmission line that we’re going to be making a filing to a pursue that. The New England RFP we bitter selection process, we’re expecting it to be by the end of July and as you know we have two projects in Maine, two proposals regarding transmission. One another project which is we would be providing the wind resources from our renewable businesses in New York on another transmission line have been proposed by Eversource. So we have three projects in this RFP and we’re very hopeful and confident that we should be successful on those. And then the FERC ROE compliant in the New England, the ALJ issued an order on March 22 which recommended a base ROE for the 15 month refund period in complain number two of an ROE of 9.59 and the cap of 10.2 for that 15 month period. Then for the Complaint 3 and going prospectively, his recommendation was for a base ROE of 10.9 with a cap of 12.19 for the 15 months refund period and then going forward. FERC is expected to make their final decision later this year, early in 2017 and if adopted as final the ALJ mid it’s decision, that would require a net increase in our reserve for complaints two and three of about $10.2 million net of tax based on what we know today from those proceeding. Moving on to some of the projects we have going on and keep in mind we’re focusing on improving our resiliency, replacing the aging infrastructure and automating our system. One of the great ones we have at the Cooper Mill Static Synchronous Compensator, which is being put in place into Maine and this was after a quest of ISO New England to make this investment to support the regional bulk electric system and really relates to upgrades in the Boston area that are being done by a Eversource and National Grid. Now it does require a substation expansion within the 200 MVAr STATCOM, which is the static synchronize compensator. The investment there is going to be over between 2016 to 2018 and an about $52 million. Also at Maine and also for about $52 million is our Customer Smart Care Data System upgrade and this is going to enhance our customer service and flexibility, allowing from more innovative rate design, allowing for dynamic pricing and then it’s also going to help us to optimize our AMI capabilities. And as you recall, we put in AMR entirely in CMP service territory. In Connecticut for our transmission projects we have the metro north railroad corridor where we’re replacing the transmission lines along the metro north corridor and keep in mind our transmission lines are on the catenary that provide the electricity to allow the trains to run. So if catenary is over 100 years old and are deteriorating, so we have concluded along with ISO England that we need to replace those. We’re putting along monopoles along the corridor and that investment in this five-year timeframe is going to total about a $150 million. Then in New York, we have the Guinea Retirement Transmission alternative and this is going to provide a 345 KV connections to the New York power grid, help ensure reliable service to the Rochester area and then also allow the ultimate retirement of the local generation plants. That investment again is $140 million. It’s started, its already spending money there and we started last year. It should be in operation by the end of ’17. Turning to our renewables business and looking at our projections for the next two years, we have currently 5.7 gigawatts in operation and another 744 megawatts are under construction. I will spend a minute going over which one of those projects are. If you keep in mind that the first one in North Carolina will be operational by the end of this year and that’s a 208 megawatt project, $375 million in capital spending, that’s a 13 year PPA with Amazon and it’s under construction as we speak. El Cabo is almost a 300 megawatt project in New Mexico that will be supplying power to California IRU and our people did a great job in piecing together the transmission that would be needed to move that power from New Mexico into California. This project is about $515 million. It will be completed by the end of 2017 and that has a 20-year PPA with the California IOU. Tulare is 132 megawatt project in California. Again that will be completed by the end of 2017. We’ll spend about $235 million on that and that has a 15 year PPA with the California IOU and we’re currently finalizing the off-take agreements, but that should be operational in that timeframe. We also have a smaller project in Vermont of 30 megawatts, $75 million in capital spending. Little more expensive in the Northeast to build these projects, but it has a 25-year PPA with an IOU and there we’re just waiting for the agency to give us the pre construction ruling, pretty much everything is in place. And then a 76 megawatt project in Colorado, again completed in the end of 2017. We’ll spend about $120 million there with a 25-year PPA with an IOU and we’re finalizing activity there. Now in total we’re going to spend about $1.3 billion in investments between 2016 and 2017 and that will increase our installed capacity to 6.5 gigawatts by end of 2017. On Page 16 we have a map that shows potential projects and these of the 6.1 gigawatts pipeline we have, we have about 2250 megawatts of wind and solar that we believe would be the ones that will provide the next opportunities in the 2018 to 2020 timeframe. These are the ones that are probably closest to coming in the final development either because we know there RFPs are going to be coming out amd we have more assets in place. We have the engineering done and so forth. But these are the ones we would say are most likely to be developed to supply the next 650 or so megawatts that we have planned for the 2018 to 2020 timeframe. Now I’m not going to go into detail, but you can see they’re spread out throughout the country giving us great diversity and there is a mix of both solar and wind that we have and so you can see this. These are real projects that can easily get developed. So let me highlight a couple of things. One, we had great performance in the first quarter. It gives a lot of visibility for the remainder of the year. Our strategic plan for the next five years through 2020 is clearly on track and we’re performing rather well to get that done. The integration and execution of our plan is in progress to integrate the UI oil in the old Iberdrola USA. We’ve extended the use of life of renewal of assets based on sound engineering and experience we have from Iberdrola worldwide and our 2016 earnings per share outlook we’ve increased it to 210 to 220 per share based on a lot of these factors. And so with that I’m going to turn it to Rich Nicholas, who is going to spend some time on the financial activities. Rich Nicholas Thank you, Jim. Good morning, everyone. Thanks for joining us today. As Jim said a very strong quarter for Avangrid and I am Slide 19, little more details are on the operating segments, while net income grew 24% quarter-over-quarter including UIL and the adjusted 2015 numbers. As you can see networks, was up 7.3% and renewables had a very strong quarter up 64% 2016 over 2015. The corporate and other segment does include gas as well as corporate and you can see positive results there. As a historical contract that was out of market that we rolled off and we see the benefit of that and positive earnings in the corporate segment. Moving to Slide 20, some of the key drivers in addition to the ones Jim had mentioned, we did benefit from decoupling in most of our companies. Southern Connecticut does not have decoupling but will in its next rate case per state statue and Berkshire Gas does not as well. However, the impact of those relatively small in the overall scheme of things from the warm weather, we do see the increase in cost related to the Reliability Support Agreement, but those are also offset in revenue and we did see lower employee related cost quarter-over-quarter. Turning to renewables, 13% improvement in wind production and that’s made up of both better wind quarter-over-quarter as well as additional capacity. Last year we did add roughly 200 megawatts with the back of wind form in Texas and the extension of renewable asset lives to new estimates there were positive by $13 million of net income for the quarter. In the other segment sale of the interest Iroquois that Jim mentioned for an after tax gain of $19 million and we did see some higher gas spreads for the contracted gas storage business. Moving to Slide 21, little more details geographically on the renewable load factor where we saw an increase from 28% last year to 31% this year and this is why being geographically diverse really helps. As you can see different results so in the West we were up to a 20% load factor versus what we would have been 16.6 last year. So a 3.4% percentage point increase. Slightly less wind in midcontinent and in Texas you can see there the big increase in part was driven to the additional capacity that I mention as well better wind. On Slide 22 looking at that 13% increase in wind production, that’s where you really see in the South Texas area, now 47% increase reflecting the additional wind farm in Texas spread pretty well across the geographic U.S. Turning to Slide 23 when we look at pricing in the renewable business this year versus last year, in total about a 1% increase and that was made up of about 3% better pricing on the PPA side, slightly lower pricing on the merchant side including the renewable energy certificates. Again slightly different results across the continent and when we look at overall, about 67% of our megawatts or PPAs 33% are in merchant and we also hedge some of our merchant where we can and so total about 80% is in PPA or hedges and about 20% in merchant. Turning to Slide 24, looking at our gross margin growth of 7% quarter-over-quarter. Again here we’ve provided some additional detail by both geography and wind versus solar, versus our thermal plant in Oregon. And you can see the effects of the various drivers on gross margin, better production increased by $26 million. We did have some PTCs that expired and the market-to-market of negative 9 is actually we still have positive mark-to-market in 2016 just less positive than we had in 2015. So overall a 7% growth, primarily driven by the production that we’ve been discussing. Turning to Slide 25 adjusted EBITDA, growing 8%. Again strong performance in renewables, renewables makes up about 25% of the EBITDA, but grew by 18% driven by the production and that works a good solid showing increase of 3% really helped by the lower employee cost and revenue decoupling.. As Jim mentioned, we have very strong cash flow for the quarter. On Slide 26, our free cash flow of Avangrid consolidated was about $175 million more than our CapEx requirements and CapEx as you know is very seasonal especially in the Northeast and the networks business as you come out of the winter so strong cash flow networks, but we would expect to see CapEx pick up. And on renewables, total cash from operations up $120 million and free cash flow of $50 million puts us in very good position moving into the rest of 2016. So when we look on Slide 27, our leverage is really primarily is the network segment of our business, UIL Holding company did have a $450 million note that continues and then little over $200 million of tax equity investments that we will be amortizing and expect to be fully amortized by 2019. We’ve got very manageable debt maturities over the next several years again at the networks business. So moving to Slide 28, that strong balance sheet results in net leverage of just under 24% in the first quarter of 2016 and net debt to adjusted EBITDA of 2.4 times. We don’t expect or there were no, excuse me, there were no new debt issuances in the first quarter and through the planning period through 2020, while we do expect net leverage to increase modestly into the low 30% range, we would also expect that net debt to EBITDA would remain relatively flat as we grow the earnings of business. In addition, AVANGRID was recently updated within the last several days by S&P and Fitch from BBB flat to BBB plus recognizing our strong financial position. As a result of first quarter results and the new estimates around useful lives, we did update our outlook for 2016 and increased it from $2 a share to a range of $2.10 to $2.20, primarily driven by the new estimates around the renewables business depreciable lines. So very strong performance to start the year and we look forward to your questions-and-answers I also look forward to seeing many of you at the AGA Conference in the next few weeks. So with that, I will hand it back to our operator Kissie for question-and-answer session. Thank you. Question-and-Answer Session Operator [Operator Instructions] Our first question comes from the line of Andy Levi with Avon Capital Advisors. Andy Levi Hi good morning. How are you? It was a really good rundown guys. Jim Torgerson Thanks Andy. How are you doing? Andy Levi I’m doing pretty well actually. [Done have someway]. Okay. So just a couple I guess easy questions. So just on the asset life to change on the renewals, so the $13 million is that we annualize at times by four or is that it — was there like a little bit of catch-up? I’m just trying to figure out on an annual basis how much we should add to earnings going forward? Jim Torgerson Yes the quarter would be annualized. Rich Nicholas Probably looking in $0.14, $0.15 annual earnings per share benefit. Andy Levi Okay. And that such $0.14 to $0.15 and that will go into next year. So we add that to next year and that was not contemplated I guess when you gave your Analyst Day, is that correct? Rich Nicholas Correct. Andy Levi Okay. That is additive. And then just as far as the because you gave more information on the renewable kind of drop off as far as contracts and things like that, I want to know really contract, but more kind of your hedge book. How should we think about pricing going forward and as far as because obviously when you re-contract the price will be lower and I think your average price I am guessing is around $55, so what is the timing of when the contracts drop off and having to re-contract those, that I don’t — right, you didn’t really give? Jim Torgerson Well we have on Page 34 you can see we have as the TPA expire and you can see it’s a graph I understand and what we’ll be doing when the contracts drop off its trying to re-contract in the first place, but other than that, they will be migrating to merchant and I would expect as the prices will be whatever the market will be at that point in time. Now it could be that obviously we’re going to sign a long term or a longer term PPA or an extension of some contract that would be at a higher price than the current market spot price, but we’ll have to see where the market is at different points in time. Andy Levi But do you give anywhere where you show the amount of megawatts and the hedge prices drop off or that’s I guess we have to figure that out ourselves. Jim Torgerson Yeah, we thought we would leave some of that work left to you guys and we didn’t do it Andy. Andy Levi Okay. Okay. So could you have this one benefit and then I’m just trying to figure out when these PPA will drop off and then what the earnings change would be. Okay, and then I’m sorry if I missed this, just what was the wind condition versus normal? Did you give that? Jim Torgerson No, but I think Frank can probably give you some idea what it was in the first quarter. Andy Levi Thank you. Jim Torgerson Frank you got. Frank Burkhartsmeyer Yeah Andy. The first quarter was still a bit below the long term average and around and it varies course by region, but somewhere around 5% below average still in the first quarter. January was very — was I think and we mentioned this when we were out January was quite down and then its normalized quite a bit since then but it’s still behind year-to-date. It’s hard though to just look at a three month slice. It’s — if you look long term that numbers moves around quite a bit by quarter. So, was …. Andy Levi Were there certain regions that were different as far as like where it was Texas above normal? Jim Torgerson I think West, I’d say the West is still behind where we were expecting — where we expect it long term. Andy Levi Okay. And what was Texas to you now? Jim Torgerson Texas was closure to long term, but I’m sorry I don’t know off the cuff here. Andy Levi Yeah, I am just being selfish. I am trying to figure out with some of the other guys out there so, other companies I should say. Okay. So just to summarize, so you increased the guidance by $0.10 to $0.20 and the change in accounting is $0.14 to $0.15 of that, is that what you’re saying? Jim Torgerson Right, so if you look at the midpoint of the guidance up $0.15 it’s really the effect of the new estimated useful lives. Andy Levi Great. And I guess that could be an industry-wide thing right. So like next era or something like that may end up benefiting from that as well. Jim Torgerson We believe next era is already at that. Andy Levi Are they, are they okay. It’s great. Jim Torgerson I think we’re catching up. Andy Levi Yeah, catching up okay. Thank you very much. That was a really great run down. Jim Torgerson Thanks Andy. Operator Our next question comes from the line of Christopher Turnure with JPMorgan. Christopher, your line is live. Christopher Turnure Good morning guys. Thanks for the extra details today, they’re very helpful. I wanted to may be understand some of the drivers that have changed for you over the past two months or so since the Analyst Day and the impact potentially on your long term earnings CAGR that you gave at the Analyst Day. And maybe you could give you color on the depreciation expense going down obviously that’s a help the AIJ decision from FERC prospectively may be assuming that in fact is the final decision and then even know it’s a small slice to your ownership stake in Northeast Energy Direct did have optionality for you guys to increase that and I was wondering if that has a material impact on your longer term guidance as well? Jim Torgerson Yeah, I think going forward we were — we’re on track with our strategic plan, I think for both this year and the longer term. The thing that changed on the earnings was really the depreciation modification that we did and it was really based on what Iberdrola was saying worldwide and their experience with wind farms in Scotland that they had for over 20 years. And then we did a lot of engineering analysis. So that was really the basis for the change. Everything else has pretty much been on track and I can’t say that there have been anything dramatically changed from what you heard at least from a long-term strategic standpoint and even for this year on from what you heard at Investor Day in February. As far as the FERC ROE, that’s got our ways to go yet. If it ends up being what the ALJ recommended prospectively, I think that would be plus because then we were looking at an ROE that would be slightly higher than the 10.57 and 11.74 cap that we currently have in place right now based on the FERC order from complaint number 1. So if they take complaint number 3 that will have a charge, we’ll have to set up a reserve for the complaint 2 basically and then moving forward though it would be positive for us. And on Northeast Energy Direct, we took really an immaterial charge and what we see is that it wasn’t going to be anything that was going to be in before 2019 at the earliest and so it really has a very minimal impact to our longer and short test. If anything at all, we’re still very comfortable with our 8% to 10% growth in net income over the five year period. And so I don’t see anything changing dramatically from that. And that is — we’ll see what happens going forward, but we were going to invest about $80 million over the five year horizon and so it really wasn’t going to impact us that much. Christopher Turnure Okay. So net, net really no change to that range that you gave and the optionality of that pipeline to go up to I think there was maybe a 12% ownership stake or something in that vicinity all kind of net backed to no change? Rich Nicholas Yes we could have got, it would have been up to 15%, but we never really — we didn’t factor that in because that was just the contract and depending on a lot of things happening with the RFPs and the EVC proposal that would have had to been consummated in New England for us to even get higher percentage. So net, net, we don’t see a change and we’re very comfortable with the 8% to 10% range. Christopher Turnure Okay. Great. And then maybe you could give us more detail on the Connect New York project. It’s I guess a 1,000 megawatts TC, but how long is it going to be? Could you give us any kind of CapEx numbers there and even though I guess it’s early stage and then maybe some information on how you’re thinking about timing and whether or not that’s in your current plan as well? Rich Nicholas Yes Bob Kump can fill in on that one. Bob Kump Yeah Chris, hi it’s Bob. So I think we spoke at our Investor Day back in February that this was not a project that at this point we had in our numbers, but one we were developed. As Jim mentioned in his remarks today, we are making a filing of that as part of a proceeding going on a public policy proceeding, a spin-off of the AC proceeding that’s been going on in New York. So that will be filed by the end of this month, in fact later this week. The details of the project itself in terms of cost and timing are to be determined, will not be made public as part of the instant proceeding, but we continue to move forward. The first phase of this would be let’s call an Article 7 filing to do that later this year. So everything remains on track with that. We’re having a lot of discussions with third parties about it. We continue to believe very strongly that this has a great fit given the situation as it exist currently in New York and that is insufficient transmission capabilities that stay, tremendous efforts by environmentalists to avoid anything overhead, excess capacity upstate and the threat of nuclear plants closing, which the Governor doesn’t want to see and so we really see this project solving a key issue facing New York State from a transmission standpoint. Christopher Turnure Great. Thank you very much. Rich Nicholas Thanks Chris. Operator Our next question comes from the line of [Felix Curman]. Unidentified Analyst Hi guys. Congratulations on a great quarter. Rich Nicholas Thanks. Unidentified Analyst Jim, I think you’ve touched on this in the last question, but you are still comfortable right with the 8% to 10% CAGR? Jim Torgerson Yes. Unidentified Analyst And then just mathematically speaking right, if we pick up $0.15, it’s roughly about 7.5% above your original ’16 guidance. If one were to just mathematically spread that out over the year 2014 through 2020 CAGR, can we pick up 1% on the CAGR over the term or no? Jim Torgerson What I’d say is we are looking at the 8% to 10% and we feel pretty comfortable with that. If you take 2014 where we were working off before and if you’re adding 7.5% at least in this year then we would probably say that its moving up a little bit, but we’re still 8% to 10% sounds pretty good right now. Unidentified Analyst Okay. Great, great and then just one quick question on the merchant PPA prices, can you just circle back and tell us how this price that you put here relates to the number you gave you in the Analyst Day and how you are thinking about that number going forward in your guidance. Jim Torgerson Well what we said in the Analyst Day is we were looking at something in the $27, $28 range. that was without the wrecks. So when you look at the merchant price you got to add the wrecks into that and the wrecks they vary in price from $5 and right now they were looking in the first quarter they were quite a bit higher. They were probably closer to $8 or $9 now across but they vary by region. I don’t know Frank do you want anything to do that? Frank Burkhartsmeyer No, that’s just in Jim we had that, you nailed it. Unidentified Analyst Okay. So this $30, $35 price here is higher than what you had expected at the Analyst Day? Frank Burkhartsmeyer No, no sorry, that’s consistent. Unidentified Analyst That’s consistent. And are you guys are assuming this phase flat through the period. Jim Torgerson Yes. Unidentified Analyst Okay. Okay. Thank you. Operator Our next question comes from the line of Paul Patterson. Paul your line is live. Paul Patterson Good morning. Jim Torgerson Hi Paul. Paul Patterson Just a few quick questions number one on the depreciable life change, was there any specific component or technology or one specific issue or couple of issues that led to that. Jim Torgerson The biggest thing was the dollars, they were laughing a lot longer than we would have expected, but then also you look at the transmission equipment that’s part of the wind farm whether they had transformers and sub stations and those type of things. Their average life was much longer and the towers were on the pads that we put in to support the towers were all of — would have a longer life. So basically the civil work and the transmission activity were the ones that we were looking not so much the turbine and the blades. Paul Patterson Okay. And was there anything that caused it to be revaluated specifically in the first quarter or just is that how it happens sort of coincidentally? Jim Torgerson Yes, it was more how it happens and how Iberdrola was looking at across the globe and all of their wind farms being what 15,000 megawatts that are operating and looking at their experience across the world and then doing the engineering analysis, so just so happened and came in the first quarter and we then applied it to what we have here in the U.S. and found it to be consistent and made sense to apply that change. Paul Patterson Okay. There was also another FERC ALJ ruling we expect to the California power crises that mentioned Iberdrola and Shell. Have you guys — does that have any impact on you guys and is there any reserve that’s been there before not that you could talk about? Jim Torgerson Paul, if there would have been a reserve, we really would have called it out. Certainly it has an impact from the stand but we’re going to have spend more of legal fees in order to keep pursuing this, but the fact of the matter is we believe our positions were well founded and we still believe that and FERC’s staff actually supported letting us out of that whole activity with the California. So we feel pretty strong with our position is sound and the ALJ came up with a recommendation we did not find that there was any market manipulation on our part and it was just a difference between what he felt was a contact price and what some stock prices were. That was the difference he was sitting and he felt that was high. So we believe in the end for the FERC Commission will find correctly and turn this around when the FERC, the whole Commission actually has the chance to look at it. Paul Patterson Okay. But if they did it, just because we do an ALJ ruling out there, how would — would it just be a one timer or something that you guys will have to deal with if they were to go with the ALJ rack or would that be an ongoing impact? Rich Nicholas It would be one time since we’re looking at the termination of what the — from the complaint what might have to be refunded and that’s something that hasn’t even been determined set. The ALJ didn’t even make that determination yet. There is no determination on that whatsoever. Paul Patterson Okay. Got it. Rich Nicholas Okay. Paul Patterson And then on the Guinea transmission retirement thing, if Guinea does not as you know New York is talking about keeping some of the new stuff and what have you, if Guinea was supported, would that impact Guinea retirement project at all? Bob Kump No this is Bob, that project as Jim mentioned is under construction as we speak and will be completed by the end of the first quarter of next year. There in the event that the plant closes, obviously our goal as an organization is to try to help the situation through things like Connect New York and improve transmission such that those plants can continue to operate have access to higher price markets. Paul Patterson And then just finally, the credit rating, what is the credit rating goal you guys have for the company? Jim Torgerson Well you just saw that we were upgraded from BBB flat to BBB plus. Our goal is to maintain a strong balance sheet and strong credit metrics. I wouldn’t say that we have an absolute target on any given agency or given rating. Paul Patterson Okay. But you want to expect it to change, you don’t have a substantially lower one or in general we should think that it’s general area that you’re now is pretty much where you want to be or is that safe to say or I don’t want to put words in your mouth? Rich Nicholas Well I think it reflects our financial position. Jim Torgerson We’re happy with where it is and obviously we could always see it go higher, but that’s what the rating agencies will determine but as Rich said we want to make sure we maintain a strong investment grade rating and that we can do finance all the projects we want to do. That’s the reason behind it. Paul Patterson Absolutely. Thanks so much. Operator Our next question comes from the line of [Andrew]. UnidentifiedAnalyst Thank you. Good morning guys. First a question on, you already talked a bit about the MED pipeline from an equity perspective what about for your LVT customers? Do you need to off-take agreements somewhere else now? Jim Torgerson Well the problem we have Andrew is that in Berkshire that the only pipeline that serves Berkshire. So we have a moratorium in place in Eastern division of our Massachusetts operation there and it’s small. But still we can’t add anymore customers up in Massachusetts in that Eastern division because we don’t have any more capacity. For the other utilities and the LDCs we have, we’re actually in very good shape and in Connecticut we have three pipelines starting on the New York, we’re in good shape. So we don’t really have that same issue. Where it’s going to be more significant is that the pipeline was thought to be more to be supplying for electric generation particularly in the winter when I think the capacity is all taken by the LDCs in New England. So that’s where we’re going to see some more problems potentially in the future. Our LDCs are in okay shape. We had all the supply we need to serve our existing customers. We’re not going to be able to grow as much in that one Eastern division of Massachusetts at this point because we don’t have additional capacity. We’ll be looking at alternatives, but some of them are going to clearly be higher price. If we have to put in more LNG or propane air, it’s going to cost more and is that something we should be doing to be able to serve additional customer, new customers and that’s I want to work out with the Massachusetts DPU. But for the other jurisdictions we’re in good shape. It’s just that we saw this pipeline is helping solve the problems in New England with electric generation. UnidentifiedAnalyst All right. Great. The next question is on integration. In the slides you mentioned Phase 1 and Phase 2, I know it’s early, but how many phases are there and do you have any sense how many years until you consider the two companies fully integrated? Jim Torgerson There is two phases, we’re in the Phase 2 now. I would expect that Phase 2 is going to vary, but I think we should be done with Phase 2 in let’s say 12 to 24 months timeframe and some of it are going to be significant software changes where we like our SAP system. We got to look at the configuration and the modules that are being utilized by each of the different companies and bring those together. They were all working off the same systems, modules and configurations. Now that’s going to take a little time and then the resources we have to build to do that along with all the other projects we have going on. So, I think the software activities will take a little longer, I think just integrating people, integrating processes and procedures, we’ll get that done this year. I would be pretty confident of that. Paul Patterson Great, next question we had asked at the Analyst Day about any guidance for effective tax rates, you had a chance to kindly go through that and give us a ballpark number a range what we can expect? Rich Nicholas When the 10-Q comes out for the quarter we’ll have an update on the effective tax rate for the quarter. Obviously the PTCs have an impact as you move forward in time but we haven’t put any specific effective tax rate guidance out there… Paul Patterson So that can be considered doing? James Torgerson We’ll take a look at it. Paul Patterson Okay. Fair enough. The last question, Jim I don’t mean to get personal here, but I know this has been new employment concept had some changes to the wording and particularly around change in control and severance plan. Is there anything that we should be reading into in terms of Avangrid either as a buyer or seller in this M&A market? Jim Torgerson Absolutely nothing to right in there. That’s just that the philosophy Avangrid has related to change in control and this is nothing new, nothing to read in. Paul Patterson Okay. Great. Thank you guys. And I was want to echo the comments, I appreciate the increased disclosure particularly around wind in the slide deck there. Jim Torgerson Thanks. Operator Our next question comes from the line of [Julian]. Unidentified Analyst Hi good morning. Jim Torgerson Hi, Julian, how are you doing? Unidentified Analyst Good, thank you for taking the time. So wanted to follow up on your connect line here, can you elaborate a little bit on the status of the project just vis-à-vis routing that’s been obtained the sliding etcetera. Then also I know you want to talk about cost per say, but elaborate at least on timing and it’s procedure to get this project approved. I suppose as part of the AC transmission our proposals do better. Jim Torgerson Correct, correct Julian. So yeah let me give a little more color. Obviously familiar with the base projects, it’s a 1,000 megawatt DC line eminating from essentially the Utica area utilizing the rights of oil along the true way down past the two congestion points into the New York City area, right that’s the general concept, it’s about 170, 180 miles roughly is the length of the project. Our view is as I mentioned we’ll submit as part of this AC proceeding on public policy, we will be working and filing the primary permitting application with the New York PSC 7 later this year. Everything went perfectly and how things are with the transmission projects, I would say the best you could hope for may be construction in the 18 and on timeframe. Unidentified Analyst Great. Excellent. And then can you elaborate a little bit on Upstate New York opportunities around the RPS expansion and what that means? I suppose obviously you were talking about New York Connect project today, but more holistically we’ve talked about nuclear earlier, but we’ve chipped in a little bit more on the emphasis on the eventual RPS and long term PPA opportunities in this that is forthcoming in the state. Jim Torgerson Yeah, I guess I’ll say beyond Connect New York we’ve mentioned the New York Transco. We’re working with other utilities on AC type transmission projects, again largely focused on system reliability as well as these congestion points from Upstate to Downstate. We’re working with the New York power authority on a project in the Western New York that would better enable hydro electricity access to the downstate region. So those are kind of transmission areas of focus. The other quite frankly is in addition to the nuclear looking for better markets. You have tremendous opportunities in around the park for wind and I will let Frank speak to that more, but we have a couple of operating farms already in that area and several I think were listed on the slide in this presentation in that area as well as potential opportunities for greater wind and as you correctly mention high on the radar screen of the government. So we’re tracking it from both ends. I don’t know Frank if you want to add anything else. Frank Burkhartsmeyer Well, just I’ll just affirm that we very actively maintained development opportunities in the New York area. We have to see how the rules play out in terms of the ability to do long-term contracts, which will make that more attractive to us. As we stated we’re only going to build where we can guarantee that we have long-term off take certainty. But we like the market obviously and we’ve got some really good development opportunities there that we’ve laid out on Slide 16. So we will stay tuned in and see how the policy changes there, but right now there is not a long-term energy market for renewables there but we’ll have to see how that evolves. Jim Torgerson And I guess the last thing I will then add is when you look at in particular our Connect New York project that emanates as I said. Unidentified Analyst You need something by 12. Jim Torgerson I am sorry. That project emanates in the Utica area and when you look at not only most of the nuclear facilities that are currently looking for better pricing, you’ve got up in Neymar 1 and 2, Fitzpatrick and then when you look at the projects that Frank has mentioned that are all off the Eastern edge of Ontario, I think again our project Connect New York fits well with where a lot of that potential generation both renewable and nuclear would reside. Rich Nicholas If you look at the renewable projects, as Frank mentioned we have almost, we have four projects potentially with almost 400 megawatts in the New York area that could add to the development of that. So as Frank said, we’re pursuing this pretty aggressively. Unidentified Analyst But any sense on timing for that PPA or an RFP in the state direction? Jim Torgerson I don’t think we’ve seen anything on RFP, at this point no. I think the key is going to be providing transmission access. And the other thing to keep in mind is the New York does have a renewable portfolio of standard now of 50% by 2030. So they’re going to be needing additional renewable resources and having those in state will be a plus and also them having the transmission to get it done in the marketplace in the New York City is going to be a plus. So I think all those factors are positive for us. Bob Kump And the Governor as you know has a keen interest in keeping those nuclear plants running and it’s proposal and the commission’s proposal around that specifically for the nuclear to support them, but we’re really looking at what’s the longer term option again for providing access to better priced markets for upstate generation. Unidentified Analyst All right, thank you. Jim Torgerson Thanks. Operator Our next question comes from the line of Andy Levi, Andy your line is on. Joe Zhou Hi this is Joe Zhou from Avon Capital. How are you? Jim Torgerson Good. Joe Zhou Just a follow up for the New York on the rent, is this a project that competing against the Compass project? Jim Torgerson I’m sorry which project? Joe Zhou Compass which developed by PBL? Jim Torgerson9 I guess to the extent that any project is looking to provide greater access for power to the New York City area, you could call it competing. Obviously that line my understanding of it, I don’t know lot about it but it is bringing power from PJM, not helping the market in Upstate, New York which is what the Governor is focused on. So from that perspective they’re very different project. But they’re all intending to provide greater access power. Obviously we are also focused on renewable energy and clean energy as part of this. Joe Zhou Okay. Great. Thank you. Jim Torgerson Okay. Operator There are no further questions in queue at this time. Jim Torgerson Okay. 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