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Exelon (EXC) Christopher M. Crane on Q1 2016 Results – Earnings Call Transcript

Exelon Corp. (NYSE: EXC ) Q1 2016 Earnings Call May 06, 2016 11:00 am ET Executives Dan L. Eggers – Senior Vice President-Investor Relations Christopher M. Crane – President, Chief Executive Officer & Director Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP Joseph Nigro – Executive Vice President, Exelon; Chief Executive Officer, Constellation, Exelon Corp. Analysts Steve Fleishman – Wolfe Research LLC Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Julien Dumoulin-Smith – UBS Securities LLC Praful Mehta – Citigroup Global Markets, Inc. (Broker) Operator Good morning and welcome to the Exelon Corporation’s Q1 2016 Earnings Conference Call. My name is Prasanthi and I’ll be facilitating the audio portion of today’s – and active broadcast. All lines have been placed on mute to prevent any background noise. For those of you on this stream, please take note of the options available in your event console. At this time, I would like to turn the show over to Dan Eggers, Senior Vice President of Investors Relations. Dan L. Eggers – Senior Vice President-Investor Relations Thank you, Prasanthi. Good morning, everyone, and thank you for joining our first quarter 2016 earnings conference call. Leading the call today are Chris Crane, Exelon’s President and Chief Executive Officer; and Jack Thayer, Exelon’s Chief Financial Officer. They are joined by other members of Exelon’s senior management team who will be available to answer your questions following our prepared remarks. We issued our earnings release this morning along with the presentation, both of which can be found in the Investor Relations section of the Exelon’s website. The earnings release and other matters which we discuss during today’s call contain forward-looking statements and estimates that are subject to various risks and uncertainties. Actual results could differ from our forward-looking statements based on factors and assumptions discussed in today’s material, comments made during this call, and our Risk Factors section in the earnings release, and the 10-Q, which we expect to file on May 10. Please refer to today’s 8-K, the 10-Q, and Exelon’s other filings for a discussion of factors that may cause results to differ from management’s projections, forecasts and expectations. Today’s presentation also includes references to adjusted operating earnings and other non-GAAP measures. Please refer to the information contained in the appendix of our presentation and our earnings release for a reconciliation between the non-GAAP measures to the nearest equivalent GAAP measures. We’ve scheduled 45 minutes for today’s call. I’ll now turn the call over to Chris Crane, Exelon’s CEO. Christopher M. Crane – President, Chief Executive Officer & Director Good morning. Thanks for joining us this morning. Once again we had a great quarter financially, where we closed near the upper end of the range even with the milder weather. And operationally, our utilities and plants continue to operate at high levels. The big news for the quarter is we closed the Pepco Holdings transaction in March. We are excited to have Pepco utilities as part of the Exelon family. We know this has been a long journey and it took much longer than any of us anticipated, but we appreciate the patience of our investors as we pursued the merger. Our employees who worked tirelessly from the inception to the completion of the deal and the many stakeholders who’ve supported was critical to getting the deal done. PHI is an important piece of our strategy to become a more regulated company with more stable earnings streams. While we are still in the early stages of integrating PHI, PHI’s earnings outlook is consistent, if not better, than what we showed you at EEI. It brings meaningful benefits to our customers, communities in Delaware, District of Columbia, Maryland, New Jersey, including bill credits and reliability investments. More than $500 million in total commitments have been made and will be achieved due to this merger. We’re now focused on integrating Pepco into Exelon. We will bring our management model and our best practices to improve the experience of our customers. The transaction confirms Exelon’s role as a leader in the industry. We serve 10 million customers, more than any other utility company. We will spend nearly $23 billion in capital across our utilities and generating business over the next three years, which is the second-highest among our peers. We are the largest pure T&D by rate base and within the top five when including rate base generation. We are the second-largest generator of electricity in the country, the largest competitor by a factor of nearly two, while producing power at the lowest carbon intensity of any large generator. We are the leader in the retail electric provider in the country serving 139 terawatts. The culture of the industry leadership is found throughout our organization, positioning us very well for the future. Switching to operational performance. Our first quarter operating performance was strong and we’re on track for a strong year. At our legacy utilities, our SAIFI and CAIDI are on track to meet reliability targets; we are in top quartile in both. At the GenCo, our nuclear plants ran at a capacity factor of 95.8%, our solar and wind assets outperformed their energy capture targets. Switching to Illinois in the nuclear plants. While there is much to celebrate this quarter, we also need to make tough decisions on the future of Clinton and Quad Cities nuclear stations in Illinois. The board has given me authority to go forward with early retirements for Clinton and Quad Cities plants, if for Clinton adequate legislation is not passed during the spring legislative session that is scheduled to end May 31, and if for Quad Cities adequate legislation is not passed and the plant does not clear the upcoming PJM auction. Otherwise, we plan to retire Clinton on June 1, 2017, and Quad Cities on June 1, 2018. This is consistent with planned refueling outage and capacity market obligations. We committed to our employees, our shareholders and the communities to try to find a path to profitability for our distressed assets. This is because these plants are vital to the communities that they are located in and provide economic and environmental value to the state. The state’s own analysis showed that closing Clinton and Quad Cities would result in $1.2 billion in lost economic activity and 4,200 jobs lost, and a significant reduction of supply of reliable electricity for Illinois residents and businesses. We worked hard over the last few years to find a path to sustainable profitability. To bring $120 million in strategic capital to these plants, we’ve pursued legislation and regulatory market changes. We’ve been successful in some areas: the PJM market reforms that were put into place last year, the cost reductions that we’ve achieved, and the large number of stakeholders who have worked so hard to help in this fight. We have strong allies in our cause, our employees, our plant communities, the bill sponsors and co-sponsors, our partners in labor, and our vendors among others. I want to thank them all very much for their support and regret the impact on this decision that we have on them. But for reasons outside of our control, we have not seen progress in Illinois policy reforms, also the Supreme Court stay creates uncertainty regarding the EPA’s Clean Power Plan. Power prices have fallen to a 15-year low in PJM, causing the economics of Clinton and Quad Cities to further deteriorate. These plants have lost $800 million in cash flow from 2009 to 2015. Just to be clear, we are not covering our operating costs or our risks, let alone receiving a return on our invested capital. We’ve done all we can up to this point and we continue to work through the spring legislative session to enact the much needed reforms. However, without adequate legislation we no longer see a path to profitability and no longer can sustain the ongoing losses. On a more positive note, we continue to see a pathway to reform in New York where Governor Cuomo, the legislature, the Public Service Commission have recognized a need to preserve the state’s nuclear plants. New York is quickly moving forward to implement a clean energy standard that will allow us to continue to operate our challenged Ginna and Nine Mile plants. I’ll turn the call over to Jack to discuss the first quarter results further. Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP Thank you, Chris, and good morning, everyone. My remarks today will cover our first quarter results, 2016 guidance, update our gross margin disclosures and provide an update on developments since Q4. I’ll start on slide eight. As Chris stated, we had a strong quarter financially and operationally across the company. For the first quarter we delivered adjusted non-GAAP operating earnings of $0.68 per share, near the top of our guidance range of $0.60 per share to $0.70 per share. This compares to $0.71 per share for the first quarter of 2015. Exelon’s utilities delivered a combined $0.37 per share. During the quarter, we saw unfavorable mild weather at PECO and ComEd versus planned, which was partially offset by lower bad debt expense at BGE. There are only eight days of PHI included in our results, which had a minimal impact on the quarter. Generation had a great quarter, earning $0.34 per share. We had strong performance from our nuclear assets with better capacity factors than budgeted. And while weak power prices and lower volatility were a drag, our Constellation team delivered strong results. Our generation to load matching strategy continues to provide value and we benefited from a lower cost to serve our customers. For the second quarter, we are providing guidance of $0.50 to $0.60 per share. This compares to our realized earnings of $0.59 per share for the second quarter of 2015. The appendix contains details on our first quarter financial results compared to the first quarter of 2015 results by operating company on slide 16 and 17. Turning to slide nine, we are affirming our full-year guidance range of $2.40 to $2.70 per share which now includes the contribution from PHI and assumes an average of 926 million shares outstanding for 2016. This should help calibrate your segment models. On slide 10, we are still working through a comprehensive financial plan now that we have closed the PHI deal, but want to address the pieces that we can today. We are reaffirming our earnings growth at our legacy utilities of 7% to 9% per year from 2015 to 2018. On PHI, we are still working through the plan, but see the contribution equal to or better than what we showed you at EEI and consistent with sustaining our 7% to 9% utility growth target. On slide 11, to meet these growth targets we are going to be busy on the regulatory front. The PHI utilities have been out of rate cases for at least two years. We are continuing to invest $800 million per year to improve reliability and customer service leading to the low-earned ROEs that we show on slide 30 in the appendix. However, by the third quarter, we plan to file distribution cases in all of PHI’s jurisdictions and expect decisions in all cases by the middle of next year providing needed revenue release. Atlantic City Electric and Pepco Maryland have already filed their cases. ACE filed an electric distribution base rate case on March 22 with the New Jersey Board of Public Utilities requesting an $84 million revenue increase and a 10.6% return on equity. It also included PowerAhead, a five-year $176 million grid resiliency plan. On April 19, Pepco requested a rate increase of $127 million with the Maryland’s Public Service Commission. The rate cases include smart meter recovery and a two-year $32 million grid resiliency plan. In addition to reducing the number and length of outages, Pepco’s five-year smart grid program is generating nearly $4 in customer benefits for every $1 invested. In addition, ComEd made its annual formula rate filing with the Illinois Commerce Commission. ComEd requested a revenue requirement increase of $138 million reflecting approximately $2.4 billion in capital investments made in 2015. Those investments, which included $663 million for smart grid-related work has helped strengthen and modernize the electric system, resulting in record power reliability and customer satisfaction, operational savings, and new ways to save on electric bills for ComEd customers. More details on the rate cases can be found on slide 33 – slides 34 through 37 in the appendix. Slide 12 provides our first quarter gross margin update. In 2016 total gross margin is flat to our last disclosure. During the quarter we executed on $200 million of power new business and $100 million of non-power new business. We are highly hedged for the rest of this year and well-balanced on our generation to load matching strategy. Total gross margin decreased in the first quarter by $150 million in 2017 and $200 million in 2018, as PJM power prices moved approximately $1.60 to $2.10 lower since the beginning of the year. We ended the quarter approximately 5% to 8% behind ratable in both of these years when considering cross-commodity hedges with a majority of modeling concentrated in the Midwest to align to our fundamental view of spot market upside at NiHub. Power prices have risen since the start of the second quarter and we are timing our hedging activity to lock in the value of the recent price increases while remaining well positioned to capture our fundamental view. On slide 13, I wanted to give you a quick update on some tax implications that are associated with the completion of the PHI merger. With the inclusion of PHI, we expect to realize $700 million to $850 million of additional cash from 2017 to 2019 related to legacy NOLs and the impacts of bonus depreciation. However, now, as a very modest cash tax payer for 2018, we have less ability to take the domestic production activities deduction, or DPAD, in 2018 which effectively increases our overall consolidated tax rate by as much as 200 basis points or the equivalent of $0.06 to $0.08 per share in 2018. Although this is a one-time negative impact to 2018 ExGen earnings, it comes with significant positive cash flow and we expect to return to normalized tax rates in 2019. With the variability of interest rates, I’d like to remind you that ComEd’s allowed ROE is based on a 30-year treasury rate plus 580 basis points, and thus sensitive to moves in this rate. Every 25 basis point move in treasury rates results in a $0.01 move in EPS. Before turning the call over to Chris, I wanted to raise a few scheduling points. We’ll be hosting an Analyst Day on August 10 in Philadelphia and we’ll get details around shortly. Therefore, we will not be having a second quarter earnings call and will release earnings before Analyst Day. I will now turn the call back to Chris for his closing remarks. Christopher M. Crane – President, Chief Executive Officer & Director Thanks, Jack. Just closing out on slide 14, the capital allocation philosophy. I want to cover that before we turn it over to Q&A, and take a moment to reiterate our capital allocation philosophy. Balance sheet strength remains a top financial priority. We have a strong strategy to deliver stable growth, sustainable earnings, and an attractive dividend to our shareholders. We will be growing that dividend at 2.5% each year for the next three years, starting with the dividend payable in June. From a capital deployment perspective, we will continue to harvest free cash flow from the generation business to invest primarily in our utilities to benefit our customers, invest in long-term contracted assets which meet our return requirements, and return capital to our shareholders. This is the right strategy for our markets and our assets. Thanks and we’ll open the line up now for your questions. Question-and-Answer Session Operator And we do have audio question from Stephen Byrd (17:13). Christopher M. Crane – President, Chief Executive Officer & Director Hey, Steve (17:15). Unknown Speaker Start on the Illinois legislation. And wonder if you could speak to the breadth of support that you have for the proposal. And then also if you could just go through the mechanics of if it was implemented, how it’d work? So we can start to think about modeling the impacts. Christopher M. Crane – President, Chief Executive Officer & Director Joe, you want to cover that? Joseph Nigro – Executive Vice President, Exelon; Chief Executive Officer, Constellation, Exelon Corp. Sure. Steve (17:36), the support is the same support we had for the original bill, labor, the host communities. And in addition, we now have the support of some groups that represent climate scientists and others that are concerned with greenhouse gas emissions. In terms of how the program would work, let me just start with a policy analogy that I think all of you are familiar with. Existing state RPS programs for renewables provide compensation of qualified resources through renewable energy credits, RECs. The REC value is the difference between available wholesale revenues and the costs needed to keep the existing renewables in operation and get new renewables built. All this is done in order to get the benefit of greenhouse gas reductions while protecting customers. If wholesale revenues go up, the needed REC payment goes down. We see that happening every day in REC spot markets. The ZEC program is designed the same way. It’s a payment for the state value of zero emission credits from nuclear plants which represents the difference between the needed revenues and the costs of operating the plants. In the case of the New York and Illinois programs, the way it would work is that experts at the Commissions will determine on a prospective basis the cost of operating the plants plus risks, less available market revenues. And where there is a delta between that, in other words where the costs and risks are not covered by available market revenues, the ZEC program will kick in and provide compensation for greenhouse gas avoidance. The program is not a PPA or a contractor difference. If revenues or costs are different, there is no true-up. And – so, Steve (19:26), I think if you have additional questions, perhaps after the call we could work with Dan and Emily to set up a meeting, go through more programmatic details. Unknown Speaker That’s great. That’s a great start. Thank you. And then just shifting over to renewables more broadly, could you just speak to your degree of appetite for more acquisitions? It sounds like you’ll be a full taxpayer, I believe, in 2019, if I have that correct. But just broadly, what degree of opportunities do you see out there in renewables? Is this an area that you would expect that you’ll see further growth in? Christopher M. Crane – President, Chief Executive Officer & Director It is definitely throttled based off of our tax capacity and we are looking at that now. You do get a certain amount of dilution with delaying the benefits of the tax attributes of the project, so we have some projects in the pipeline now and are re-evaluating others to see if they’re – they would be viable to go forward in the near-term. Unknown Speaker Understood. Thank you very much. Operator And your next question comes from the line of Steve Fleishman. Christopher M. Crane – President, Chief Executive Officer & Director Hi, Steve. Steve Fleishman – Wolfe Research LLC Hi. Good morning. A couple of – first, a logistical question. The Ginna $101 million that you mentioned that you’re getting, is that – is kind of a trued-up amount including past years, is that in your guidance for this year? Or is that kind of like a one-time item or how are you treating that? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP Steve, that’s in our guidance. Steve Fleishman – Wolfe Research LLC Okay. Including any back from prior periods? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP That’s correct. Steve Fleishman – Wolfe Research LLC Okay. And then a question just – is there any way you can give us some sense on the cash flow or losses from Clinton and Quad Cities, let’s say, in your guidance for last year or something of that sort? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP So we’ve stated that it’s greater than $800 million since 2009. There are some variables in there on cash savings going forward or cash losses going forward, power prices coming down, cost cutting initiatives; and we do have an element of overheads that would not be as controllable. So you would see the run rate to be similar to what has happened in the past. Steve Fleishman – Wolfe Research LLC Okay. Christopher M. Crane – President, Chief Executive Officer & Director Steve, you know, on this point – so for 2017, the cost exceeded available market revenues or at current marks (22:12) by $140 million. But I think importantly and Joe raised this point, it’s not the whole picture. The closure also avoids millions of dollars in basis and unit-contingent risks that we face by operating the plants. And stated differently, in order to reverse course we need Illinois as well as New York to provide a structure that allows us to cover our cash costs plus normal operating risks in order to reverse this course. Steve Fleishman – Wolfe Research LLC Okay. And $140 million that’s kind of cash flow? Does that include like CapEx, or is that just kind of cash flow without CapEx? Christopher M. Crane – President, Chief Executive Officer & Director That’s cash flow. Steve Fleishman – Wolfe Research LLC Okay. One last question just on the – in the event legislation doesn’t happen and you need to shut the plants, what – is there any cost related to that? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP As you saw in the K, and we reiterate in the Q, there is some unfunded liabilities on the decommissioning trust. Those numbers are in there at full 100% ownership of the plants. And so the way that we would have to handle that is – you know, you can start out with parent guarantees, but you have to have it funded over a 10-year period, I think 60% by the end of the fifth year, and then the rest by the end of the 10 years. Steve Fleishman – Wolfe Research LLC Okay. Those numbers in the K are still good then, so that we just can use those? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP They’re updated in the Q. Christopher M. Crane – President, Chief Executive Officer & Director That’ll be coming Tuesday. Steve Fleishman – Wolfe Research LLC Okay. Thank you. Operator And your next question comes from the line of Jonathan Arnold. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Hey, good morning, guys. Christopher M. Crane – President, Chief Executive Officer & Director Good Morning. Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP Good Morning. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Just to clarify one thing on the current proposal that I think was emerged last night around the legislation. So originally this applies to all nuclear plants in the state, but is it correct that this would just be Clinton and Quad? And can you just explain how that works in terms of the discussion of the ZEC structure? Christopher M. Crane – President, Chief Executive Officer & Director Joe? Joseph Nigro – Executive Vice President, Exelon; Chief Executive Officer, Constellation, Exelon Corp. Sure. Jonathan, all plants could apply, but quite obviously the only plants that would receive revenue under this program would be those where the costs exceed the revenues. And so there is – it’s a 20 terawatt-hour cap which has enough room in it to accommodate Clinton and Quad Cities. And our expectation is that Exelon would seek to have those two plants participate. The other plants would not participate. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Okay. And that’s sort of nuanced in how the legislation’s worded effectively? Joseph Nigro – Executive Vice President, Exelon; Chief Executive Officer, Constellation, Exelon Corp. That’s correct. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Okay. Joseph Nigro – Executive Vice President, Exelon; Chief Executive Officer, Constellation, Exelon Corp. It’s the same offer to you, Jonathan; if you’d like, after the call, we could sit down and work through some of the details. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Okay. That’ll be great. And is there any… Christopher M. Crane – President, Chief Executive Officer & Director And, Jonathan, just to interject just to make the clear point, they would provide the opportunity to be compensated for cost plus risk. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Okay. That was one thing. The second thing, in your fourth quarter deck, you have this forecast around leverage ratios and the like going out through 2018, which, I believe, was assuming that Pepco would not happen. This was of the ExGen. Can you give us a sense of how that progression would look if you kind of market to the – with Pepco scenario? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP Sure. So, Jonathan, we still anticipate reducing leverage of ExGen by $3 billion over the five-year planning period, albeit this is not to the extend that we would have under the standalone scenario, because ExGen’s free cash flow is now being deployed to help fund PHI’s capital spending program. And we’ll provide more detail on the puts and takes of that at the Analyst Day in August. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. So $3 billion is kind of the new ExGen delevering number? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP That’s right. That’s over the next five years, we have a large maturity. And I believe it’s 2019, that we would look to retire at maturity. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Okay. So that’s over five years? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP That’s correct. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. And then the 2.3 ExGen debt-to-EBITDA that you were looking at for 2018, roughly what does that look like now? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP It, over the five-year period, would go to right around three times. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. So that’s again over five years, rather than three years? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP That’s correct. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Okay, great. Thank you. And then I guess you mentioned in the prepared remarks the prices have rebounded… Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP So, Jonathan – sorry, just let me correct, 2.7 times at the end of the five-year period. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. So whereas you have 2.3 times in 2018, it’s now 2.7 times after five years? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP Yes. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Okay, great. Thank you. And then you mentioned that prices have rebounded. So can you give us a rough sense of how the kind of gross margin mark would look if you use more like today’s prices? Joseph Nigro – Executive Vice President, Exelon; Chief Executive Officer, Constellation, Exelon Corp. Yeah. Jonathan, good morning. It’s Joe Nigro. I think if you look at our hedge disclosure at the end of the quarter and then factor in the changes since the end of March, you would see all of that drop in 2017 and 2018 being recovered. We’ve seen an appreciable move, as you know, in prices since the end of March. We’re actually higher in NiHub than we were at the end of the year. We’re higher at West Hub than we were at the end of the year, so we would have recovered all that drop and probably adding to it. We calculated that a couple of days ago, but the market has continued to move higher, so we probably have seen it actually go over where it ended the quarter. Jonathan Philip Arnold – Deutsche Bank Securities, Inc. Great. Okay. That’s it. Thank you very much, guys. Christopher M. Crane – President, Chief Executive Officer & Director Thanks. Operator And your next question comes from the line of Julien Dumoulin-Smith. Julien Dumoulin-Smith – UBS Securities LLC Yeah. Hi. Good morning. Christopher M. Crane – President, Chief Executive Officer & Director Good morning. Julien Dumoulin-Smith – UBS Securities LLC So perhaps to follow up on the same theme, can you elaborate a little bit on the balance of the nuclear portfolio that is ex-Clinton, ex-Quad? How you think about their cash flow profile? And if you don’t get this legislation, what the prospects are for further rationalization? I don’t mean to jump the gun too much here, but just talking about the future a little bit more? Christopher M. Crane – President, Chief Executive Officer & Director So there’s varying cash flows by assets depending on their location. They are positive at this point. If you look at the other units that are more challenged, you’re looking at Ginna and Nine Mile. One – we know about Oyster Creek and it’s coming up in 2019, the other one that has a real focus on it right now is Three Mile Island. Julien Dumoulin-Smith – UBS Securities LLC Got it. And specific to Illinois, is there any commentary around – so let’s say we don’t get it in 2016 or 2017, does that trigger another set of reviews? Again, not to push it too much. Christopher M. Crane – President, Chief Executive Officer & Director At this point we’ll have to watch the capacity auction clearing in the out years. It’s tight on energy at some of the assets, but they are positive. Julien Dumoulin-Smith – UBS Securities LLC Got it. Okay, great. And then turning back to the utilities real quickly, can you comment, or I’m curious, if you will, what the earned ROEs embedded at Pepco for 2016 – just what’s the baseline on the Pepco side as far as you see it post the close? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP Julien, in terms of – I think we included it on slide, I believe it’s 30, the earned for 2015. Obviously, while we’re in the pendency period during the rate cases that – obviously, there’s regulatory lag, so we’re going to see that decline, but we’ll have a much deeper dive in the PHI as part of the August 10 meeting. You can see on slide 29 the rate base statistics and I think can work through some assumptions on regulatory lag using that information. Julien Dumoulin-Smith – UBS Securities LLC Got it. And perhaps not to jump the gun too much on the Analyst Day, but what is the thought process on the baseline for a future regulated CAGR? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP I think the thought is the 7% to 9% that we confirmed on the call and PHI is absolutely consistent with that expectation. We, as we mentioned, are seeing improvement relative to what we forecasted or projected at EEI using PHI’s internal forecast. And Dennis and team continue to work to identify further opportunities around efficiency as well as regulatory policy to work to get those earned and allowed ROEs in line with the success we’ve experienced within Maryland, Pennsylvania and Illinois. Julien Dumoulin-Smith – UBS Securities LLC Got it. You wouldn’t roll it forward though? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP I’m not certain I understand what do you mean roll it forward? Julien Dumoulin-Smith – UBS Securities LLC The 7% to 9%, just roll it forward to CAGR off a 2016 base? Christopher M. Crane – President, Chief Executive Officer & Director We’ll address that at the Analyst Day. Julien Dumoulin-Smith – UBS Securities LLC All right. No worries. Thank you. Christopher M. Crane – President, Chief Executive Officer & Director I mean, embedded in there is 7% to 9% through 2018, so just thinking it through, it’s in there. Julien Dumoulin-Smith – UBS Securities LLC Got it. Thank you. Operator And your next question comes from the line of Brian Chen (32:25). Christopher M. Crane – President, Chief Executive Officer & Director Hey, Brian (32:30). Unknown Speaker Going over to slide 13, the EPS impact that you’ve laid out in that top table, I just want to verify that that is not including the use of capital from that positive cash flow impact that you’ve got on the second row right? Christopher M. Crane – President, Chief Executive Officer & Director That’s right, Brian (32:46). Unknown Speaker Okay. Great. And then I just want to verify that Quad Cities didn’t clear in the 2018 and 2019 auction, correct? So the closure of Quad Cities shouldn’t have any sort of residual obligation that you have for the 2018, 2019 capacity through (33:03)? Christopher M. Crane – President, Chief Executive Officer & Director That’s correct. Unknown Speaker Great. Thanks a lot. Operator And your next audio question comes from Praful Mehta. Praful Mehta – Citigroup Global Markets, Inc. (Broker) Hi, guys. Christopher M. Crane – President, Chief Executive Officer & Director Good morning. Praful Mehta – Citigroup Global Markets, Inc. (Broker) Good morning. So just on the leverage a little bit, just to ensure we understand both at the holding company level and at ExGen. You’ve kind of talked about the ExGen debt and what you see over the 20 – the five year period. How are you looking at holding company debt given the leverage you’ve assumed post Pepco transactions? Is there any objective to delever a little bit at the holding company as well? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP So Praful, as you’ve heard us comment in the past, we do target at 20% FFO to debt on a consolidated basis and that was one of the benefits of adding PHI to the Exelon family. And so we will certainly be looking at our leverage ratios at the GenCo. I think you’ll also see us consider to the extend we have available cash at the holding company as well, we just need to see as we get further out what the realized power prices are and what the free cash flow coming off of the GenCo is in those five years. Praful Mehta – Citigroup Global Markets, Inc. (Broker) Got you. And just so if you think about from the sources/uses perspective, the source is primarily out of ExGen coming to fund CapEx at the utilities and then deleveraging both at ExGen and the parent. Is that a fair way to think of it or is there some cash generation coming out of the utilities as well over the next two year, three year period? Jonathan W. Thayer – Chief Financial Officer & Senior Executive VP I would say, on a net basis, utilities are consumers of cash. So you’re correct. That ExGen cash flow as well as debt raise at the utilities is the primary source for funding the significant CapEx that we see, $25 billion over the next five years at the utilities. Praful Mehta – Citigroup Global Markets, Inc. (Broker) Got you. Thank you. And then just finally, we saw that the power new business and the to-go business, the EBITDA, or the growth margin of that is going from $250 million in 2016 up to about a $1 billion by 2018. Could you just give us a little bit of context of what’s driving that significant ramp-up in that side of the business? Joseph Nigro – Executive Vice President, Exelon; Chief Executive Officer, Constellation, Exelon Corp. Yeah. Hi. It’s Joe Nigro. That’s pretty standard shape that we have. If you go back and look at disclosures over the years, you would expect to see much less new business in the prompt years – in the prompt year, in this case 2016, than you would in the out years, for example, in 2017 and 2018. Embedded in that power new business is things like the execution of our retail business and the margins associated with that. So as we get closer to the swap period more and more of those contracts get layered in, we begin to reduce that bucket of power new business. I mean, there’s other elements of our business that follow that same timing shape, so this isn’t unique in the sense of seeing a ramp up between the prompt year to two years forward and we’re very comfortable with the numbers that we’ve put out there. Praful Mehta – Citigroup Global Markets, Inc. (Broker) Got you. Thank you so much guys. Operator And this does conclude today’s conference call. You may now disconnect. Christopher M. Crane – President, Chief Executive Officer & Director Thank you. 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.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited. THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY’S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY’S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY’S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS. If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com . Thank you!

American States Water’s (AWR) CEO Robert Sprowls on Q1 2016 Results – Earnings Call Transcript

American States Water Co. (NYSE: AWR ) Q1 2016 Earnings Conference Call May 5, 2016 2:00 PM ET Executives Eva Tang – Senior Vice President, Finance, Chief Financial Officer, Corporate Secretary and Treasurer Robert Sprowls – President and Chief Executive Officer Analysts Jonathan Reeder – Wells Fargo Richard Verdi – Ladenburg Thalmann Operator Ladies and gentlemen, thank you for standing by. Welcome to the American States Water Company Conference Call, discussing the company’s First Quarter 2016 Results. This call is being recorded. If you would like to listen to the replay of this call, it will begin this afternoon at approximately 5 PM Eastern Time and run through Thursday, May 12, 2016 on the company’s website, www.aswater.com. Besides that the company will be referring to are also available on the website. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] This call will be limited to an hour. Presenting today from American States Water Company is Bob Sprowls, President and Chief Executive Officer; and Eva Tang, Chief Financial Officer. As a reminder, certain matters discussed during this conference call may be forward-looking statements intended to qualify for the Safe Harbor from liability established by the Private Securities Litigation Reform Act of 1995. Please review a description of the company’s risks and uncertainties in our most recent Form 10-K and Form 10-Q on file with the Securities and Exchange Commission. In addition, this conference call will include a discussion of certain measures that are not prepared in accordance with Generally Accepted Accounting Principles or GAAP in the United States and constitute non-GAAP financial measures under SEC rules. These non-GAAP financial measures are derived from consolidated financial information but are not presented in our financial statements that are prepared in accordance with GAAP. For more details, please refer to the press release. At this time, I will turn the call over to Eva Tang, Chief Financial Officer of American States Water Company. Eva Tang Thank you, Terry. Welcome, everyone, and thank you for joining us today. In today’s call, I’ll review the company’s financial results for the first quarter, and Bob will discuss the liquidity and capital resources. Golden State Water’s pending rate case, California drought-related matters, and our contracted services business segment at American States Utility Services or ASUS. I’ll begin with an overview of our financial results. For the first quarter, diluted earnings were $0.28 per share, compared to $0.32 per share for the same period in 2015. Of the $0.28 per share earnings for the first quarter, $0.22 was from our water segment and our electric and contracted services segment each contributed $0.03. Net income for the quarter was $10.2 million compared to $12.1 million for the first quarter last year. I’ll discuss major items that impacted our revenues and expenses for the quarter. In the first quarter of 2016, water revenues decreased by $5.2 million to $66.3 million, as compared to the same period in 2015. As of today, Golden State Water has now received a decision on its pending water general rate case, which will set new rates for 2016 through 2018. The revenue requirements for 2016, once the CPUC issues a final decision on the current GRC are expected to be lower than the 2015 adopted levels. Major items impact – impacting the decrease in revenue requirements for 2016, includes a significant increase in supply costs caused by lower consumption, much lower depreciation expense resulting from an updated depreciation study filed with the rate case, and decreases in other operating expenses, due to the company’s improvement in operating efficiency. As a result of anticipated reduction in the 2016 revenue level, we adjusted our water revenues downward by $5.8 million for the three months ended March 31, 2016, with corresponding decreases to supply cost, depreciation, and other operating expenses to reflect the sale of the position with with CPUC’s Office of Ratepayer Advocates. The adjustments to 2016 recorded while revenue also reflects Golden State Water’s position on litigate the capital budget and compensation-related issue in the pending GRC. These adjustment did not have a significant impact to pre-tax operating income for the first quarter of 2016. As the overall reduction in the water gross margin is mostly offset by the lower depreciation and other operating expenses, partially offsetting this decrease in water revenue, where rate increases generated by advice letter filing for capital projects approved by the CPUC in 2015. Revenue for electric operations for the quarter were $10.6 million as compared to $11 million for the same period in 2015. The decrease was primarily due to determination July 2015, of a supply surcharge to recover previously incurred energy costs. The decrease in revenues from this surcharge totaled approximately $700,000 for the quarter and was offset by corresponding decrease in supply costs, resulting a no impact to pre-tax operating income. The decrease in electric revenue were partially offset by CPUC approved fourth year rate increases for 2016, and the rate increases generated from advice letters for capital projects approved by the CPUC during 2015. Revenues for our contracted services business, ASUS decreased $1.8 million to $16.6 million for the quarter. The decrease in revenue was due to lower construction work in the first quarter of this year, driven largely by the timing of engineering and bidding activities. Construction activity is expected to increase in the remainder of 2016, as compared to the first quarter of 2016. The decrease in construction work was partially offset by increase in management fee revenues, as a result of successful resolutions on price redetermination received during the third quarter of 2015. As mentioned previously for the first quarter of 2016, the water segments gross margin was adjusted for both lower revenue and lower supply costs in articulated position in the pending water rate case. Our water and electric supply costs were $17.6 million, a decrease of $4.4 million for the first quarter of 2016. Any changes in supply costs for both the water and electric segments as compared to this office supply costs are tracked in balancing account, which will be recovered from always subject to our customers in the future. Other operating expenses increased by $806,000 for the first quarter of 2016, due primarily to outside service costs at electric segment, in response to power outages caused by severe winter storm experienced in January. In addition, there was an increase in conservation and drought-related costs and higher wages. Administrative and general expenses for the first quarter of 2016 were $20.8 million, as compared to $19.5 million for the same period in 2015. The increase was mainly due to higher legal and outside service costs at water segment incurred on the condemnation matters due to this first quarter. Depreciation and amortization expense decreased by $757,000, due primarily to the reduction in composite rate is related [ph] in the pending water GRC resulting from updated depreciation study. As discussed earlier, the lower depreciation had also been reflected in the lower water revenue. The decrease was partially offset by an increase at both the water and the electric segments due to additions to utility plant during 2015. Maintenance expense increased by $593,000, due to a higher level of maintenance performed in 2016 at a water segment. ASUS’s construction expense decreased by $1.3 million to $8.7 million during the first quarter of 2016, as compared to the same period in 2015, due primarily to a reduction in construction activity, as mentioned previously, again, we expect the construction activity will increase during the remainder of 2016 as compared to the first quarter of 2016. Interest expense increased to $5.6 million for the first quarter of 2016, as compared to the $5.2 million for the same period in 2015. This was due largely to capitalize the interest recorded at water segment during Q1 of 2015, resulting from the approval of an additional allowance for funds used during construction from advice letter filings. There was no similar filing during the first quarter of 2016. Income tax expense decreased by – $2.1 million to $5.8 million, driven by a decrease in pretax income, and lower overall effective income tax rate. This slide show the ETS bridge by business segment, comparing the first quarter of this year with the first quarter of 2015. For more details, please refer to the press release. With that, I’ll turn the call over to Bob. Robert Sprowls Thank you, Eva. I appreciate everyone joining us today. Moving on to Liquidity and Capital Resources, net cash provided by operating activities for the quarter, decreased by $10.9 million to $27.6 million as compared to the first quarter of 2015. The decrease in operating cash flow was primarily due to a reduction in cash generated by contracted services, due to the timing of billing and cash receipts for construction work at military basis during the three months ended March 31, 2016. There was also a decrease in customer water usage for Golden State Water, increasing the Water Revenue Adjustment Mechanism or WRAM regulatory assets. We implemented surcharges in March to recover our net WRAM balances for 2015. In addition, tax payments during the three months ended March 31, 2015 were lower, due enlarge part to the implementation of the tax repair regulation. In regard to Golden State Water’s capital expenditures, we are pleased with our first quarter spending of $29 million on company funded capital work. Our water and electric utilities continue to invest and maintain and improve the reliability of our systems. Our capital investment program in the critical factor in delivering consistent high quality services to our customers. We are on track to invest $85 million to $95 million in capital projects during 2016, which may change somewhat once the decision issued by the CPUC on the pending water rate case. In addition, Standard & Poor’s rating services recently affirmed an eight plus credit rating on both American States Water Company and Golden State Water Company. S&P also affirm the stable reading outlook on both companies. You were pleased with the affirmation as these ratings are some of the highest in the U.S. Water Utility Industry. While we continue to produce solid financial results in the first quarter performance was impacted by higher outside services and legal costs at our water segment, encouraged to defend ourselves against condemnation related actions and lower construction activity at our contracted services segment. However, we do expect construction activity at ASUS to increase during the next few quarters. In addition, we still wait to CPUC decision on our water rate case for years 2016 through 2018. As we discussed in previous quarters, we filed our general rate case in mid 2014 for all of our water regions and general office. The application will determine in rates charge to customers for the years 2016, 2017 and 2018. Golden State Water has settled with the CPUC’s Office of Ratepayer Advocates and nearly all of the company’s operating expenses, as well as the consumption levels used to calculate rates for 2016 through 2018, which reflect the State mandated in conservation targets. The primary litigated issues relate to our capital budget requests and compensation for managerial level employees. There are not certain win in 2016, the final decision will be issued. Once issued, rates will be retroactive to January 1, 2016. As Eva mentioned earlier, adopted revenues for 2016 are expected to be lower then the 2015 adopted levels. As you may know, a big part of the utilities revenue requirement is the recovery of projected expenses. By projected expenses for 2016 in the rate case were lower than the 2015 adopted expense levels. In particular, there was a decrease in supply costs, resulting from lower consumption projected, lower depreciation expense resulting from a new study and decreased in other operating expenses in 2016 through 2018 rate case cycle, due to our cost control efforts and improvement in operation efficiency. Because of the company’s efforts, we were able to propose significant increases in our capital investment with little to know effect on rates. As a reminder, we have also received approval by the CPUC to defer our electric general rate case and the cost of capital proceeding by one additional year. Both will now be filed in 2017. In regard to the drought situation in California, in February, the State Water Resources Control Board extended the governor of California’s executive order in possessing mandatory restrictions through October 31, 2016. In addition, the State Board amended the required reductions allowing limited allowances or warmer climate regions increased population growth as well as credit for certain drought resilient water supply investment. Currently all, but one of our water systems has met the revised conservation standards. Based on our drought response actions and customers conservation efforts to-date, we do not believe we will be subject to the State Board’s penalties for failure to implement a water shortage contingency plan. Golden State Water has been authorized by the CPUC to track incremental drought related costs, incurred in a memorandum account for possible future recovery. We are in the process of preparing to file for recovery of drought related items of $1.3 million incurred mostly in 2015. Incremental of drought related costs expensed until recovery is approved by the CPUC. Lastly as of April 26 of this year, the U.S. drought monitor estimate 70% – 74% of California in the rank of severe drought. This is down from 86% reported at the end of February. Increased rainfall and higher snow pack levels over the last few months that help the drought situation. Turning to our contracted services business that ASUS, construction activity in the first quarter, a year was lower due largely to the timing of engineering and bidding activity on both renewal and replacement and new capital upgrade work. We believe construction activity will pickup during the next few quarters. We are still projecting an EPS contribution from ASUS of $0.28 to $0.32 per share for 2016. As discussed with you during our year end call. We continue to work closely with U.S. government on outstanding price redeterminations. We expect the fourth quarter price redetermination for forklift to be finalize in the second quarter of 2016 and the third price redetermination for the brag to be finalized during the third quarter of 2016. Filings for these price redeterminations requests for equitable adjustment and contract modifications awarded for new projects provide ASUS with additional revenues and margin and the opportunity to consistently generate positive earnings. We also continue to work closely with the U.S. government or contract modifications we are waiting to potential capital upgrade work as deemed necessary for improvement of the water and waste water infrastructure at military basis. In additional we are actively engaged in new proposals and expect the U.S. government to release additional bases for bidding over the next several years. We’ve remain optimistic about the future of our contracted services business. Finally, I would like to turn our attention to dividends. On Monday of this week, our Board of Directors approved the second quarter dividend of $0.224 per share on the Common Shares of the company. Dividends on the Common Shares will be payable on June 1, to shareholders of record at the close of business on May 18. American States Water Company has paid dividends every year since 1931, increasing the dividends received by shareholders each calendar year for 61 consecutive years. We are among less than a handful of companies on the New York Stock Exchange that can both of such a level of dividend increase. For the five years ended December 31, 2015, our calendar year dividend has grown at a compound annual growth rate of about a 11%, given American States current low payout ratio compared to our peers and our earnings growth prospects, there is room to grow the dividend in the future. I’d like to thank you for your interest in American States Water, and we’ll now turn the call over to the operator for questions. Question-and-Answer Session Operator We will now take your questions. [Operator Instructions] We will begin with Jonathan Reeder with Wells Fargo. Please go ahead. Jonathan Reeder Hey, good morning, Bob and Eva. I guess, on the West Coast, it’s still the morning. But I know, Bob, in your prepared ASUS remarks, you didn’t seem to indicate that this is the case, however, your main competitor indicated, they expect the slowdown on construction projects during the remainder of the year, due to military budget constraints. Is this anything that you’re seeing or expecting? Robert Sprowls It is not. We – our projects are funded. The slowdown in the first quarter was largely due to the fact that we have to do the engineering and the bidding on the work that we have lined up. So, we’re expecting to really get the construction activity going here in the last three quarters of the year. Jonathan Reeder Okay. And I guess in the same vein you aren’t seen anything that would perhaps put downward pressure on the – the construction projects you would be awarded for the next one-year period in the fall this year? Robert Sprowls We haven’t seen that. I will tell you we have a lot of projects in front of the government for the upcoming year. We’ve done our – but I think there’s a really good job of scoping out a lot of projects and getting that in front of the decision-makers at the military. So far we haven’t got the indication that we’re going to see a slowdown. Jonathan Reeder Okay. And then, I think, previously you said final GRC decision was likely in Q2. Are you implying that it slips further into the year now or just not really sure? Robert Sprowls Yes, we’re just –we’re not really sure. We do know that the judge that’s on our case has a couple of cases ahead of this. And hopefully, you will get through those. I think is on the simper case and you probably know. Jonathan Reeder Okay. That’s fair enough. Robert Sprowls We’re confident on it, maybe, but our sense is that that may come out before ours does. And so, we don’t want to get everyone’s sort of hopes up. And so, I understand the ALJs are a bit understaffed at this point. And so, they’re being challenged to do a lot of decisions. So we’re trying to be patient with them. Jonathan Reeder Sure. Okay. And then I don’t know, if you can go into a little more detail, but what do you think Golden State Water and ORA weren’t able to see eye-to-eye on CapEx levels, because it kind of looks like, the request of about $90 million a year of annual spend wasn’t all that different from the amount that you’ve expanded over the 2013 to 2015 period? Robert Sprowls Yes, we were quite surprised that, particularly given the situation where we weren’t asking for, in fact, in many rate making areas, it was a revenue requirement – small revenue requirement decrease. As you know, that’s ORA’s role is to work hard to kind of reduce your request and that’s what they are doing in this case. So I understand other – some of our other colleagues at other companies are having similar issues though. So we are – we went to litigation on our entire capital budget and we think we put in a – put on a very good chase and hopefully the judge will recognize that. Jonathan Reeder Was there, I mean, were there any projects in there that were kind of unusual or different than the spend that you’ve been, I guess, undertaken in the past few years, or was it all similar type of spend? Robert Sprowls Yes, really there weren’t really any out of the ordinary type project. So I think our spend historically had been, I wanted to say, $70 million to $75 million range. And so, we came in and asked for 90 and thought that was a reasonable request, particularly given the need to do pipe replacement and reduce unaccounted for in the State, so we’re – the company’s decision was to take our risk with the ALJ and the commission. So it was quite surprising to us to be honest, because for a company to come in with a flat rate request and then to have ORA push back on it is substantially just a little bit of a head scratcher. But sometimes either a function of the analyst you get at ORA on your capital projects. Eva Tang It’s not unusual, I think the differences between the company and ORA’s position. Robert Sprowls Yes, sure. Eva Tang The rate case we experienced before. So we’ll say that we’ve made a good showing of the need for the project and provide the solid support, as Bob mentioned. So we will see hopefully judge will see that. Jonathan Reeder Okay. And then last question, I’ll hop out. What do you expect 2016 drought expenses will be in? Robert Sprowls Just for the calendar year 2016? Jonathan Reeder Yes. Yes, just trying to get an idea of, I mean, I think you said you’re going to be filing for a little over million dollars of recovery from previous expenses. And our understanding is those, I guess, get turned around pretty quickly, kind of, like a 90-day period. So how that would, if that’s going to offset whatever your drought expenses would be this year? Robert Sprowls I definitely expect it to offset whatever drought expenses we have this year. Jonathan Reeder Okay. Robert Sprowls These are – we are not adding to the account as much as we did in 2015, as we are getting our arms around the whole thing, so… Jonathan Reeder Okay. So the heavy lifting is kind of over on that and just stay in the course, I guess? Robert Sprowls Yes, I know we still have additional costs associated with notifying customers and making sure that everybody is completely up to speed. But I wouldn’t expect the expense to be – I would expect them to be less than they were in 2015. Eva Tang And, Jonathan, Bob mentioned that we are going to file about $1.3 million scholars job for all related costs for 2014 and 2015 pretty shortly. So once that got approved, for accounting we have a reason to book our drought-related costs to a balance sheet as a regulatory act on that point on. So not only will get recover reverse expense we booked before and also we will probably reverse what we booked to-date to the reg act, so that’s a point. Robert Sprowls Yes, good point, Eva. Eva Tang Yes. Robert Sprowls Once you’ve done it, once you’ve then can – you’ve convinced the accountants that it’s going to happen again. Eva Tang Yes, it’s a probable [Multiple Speakers] Robert Sprowls Programs recurring [ph.] Jonathan Reeder All right. Well, I appreciate the additional clarity. Robert Sprowls Yes, thank you, Jonathan. Operator Our next question comes from Richard Verdi of Ladenburg. Please go ahead. Richard Verdi Hi, Bob and Eva, how are you guys doing? Robert Sprowls We’re doing good. Eva Tang Good, good. Thank, Verdi. Richard Verdi Good, here you go. I just wanted to focus a real quick on ASUS here. At least in my view that $0.28 to $0.38 or $0.32 guidance is kind of wide. Bob, can you give me some sort of idea of what you see maybe swinging closer to the top versus to the bottom? And also, is there any chance that that figure could be outperformed on the outside? Robert Sprowls Sure. Yes, so the amount of construction that we do will dictate how well we do within that range. Additionally, we do have some price redetermination request and there is – though nothing like we’ve had in the past, there is some retroactivity to that, which could push us more to the upper end or slightly above the upper end. So it’s – that’s about as good – good a range as we can give at this point. I know you would like to see it a little tighter, but that that’s as good as we can do. Richard Verdi Okay, sure. And then on the proceeded new contracts, and I understand that for competition sake you need to keep the commentary somewhat limited, but we’ve been pursuing contracts here for a few years and of course there is going to be as you mentioned some new contracts or I should say new basis being option to you in the next few years? I’m wondering can you give us a sense of maybe how deep you are in negotiations on maybe some of these contracts that you’ve been pursuing for so many years. Robert Sprowls Well, I will tell you and it probably doesn’t completely speak to your question. But we view this business as a real important part of our business going forward. We’ve institutionalized our response to RFPs and we’re working through the process. But I will tell, Richard, there was one contract that – then I took five years. So it’s something you have to have a lot of patience for and our company does and so you got to hang in there until you can get it across the finish line. So we are at various stages I would say on some of the contracts. Richard Verdi Okay, that’s great color. It’s actually great, thank you. And then the last question is this, if you look at some of the legislation, it’s been past couple of years as I say, it’s been very favorable for the privatization movement and you guys obviously do a good job, managing the company there. Any thought about pursuing a growth acquisition strategy and really trying to move outside account one year. Robert Sprowls Are you talking about from the utilities – on the utility side… Richard Verdi Yes, for the water side. Yes, for the water side. Robert Sprowls Yes, sure. We look at that and of course the things that we look at is that a favorable regulatory environment and to the degree there are businesses for sale in those particular states, we of course will look at that. And I’ll tell you though when those things due come up for sales. There is lot of folks that like that business. So it becomes a pretty competitive process and we’re not afraid of that. It’s just – you’ve got a look at these situations and make sure there is enough scale to attract you. You recall, Rich and this may have been a little bit before your time we sold our business in Arizona. That was largely because of the commission in Arizona. And it didn’t make sense for us to continue to spend all the time that we had on a 13,000 customer business there. However, if there is other businesses for sales and other states that have fair regulatory environment, we’re definitely considered those. Richard Verdi Okay, that’s great. Okay. I guess that’s it for me, thank you. I appreciate the time guys. Robert Sprowls Thanks, Rich. Eva Tang Thank you. Operator And this concludes our question-and-answer session. I would now like to turn the conference back over to Bob Sprowls for any closing remarks. Robert Sprowls Yes, I just want to close today by thanking everyone for their continued interest in American States Water and wish you everybody a good. Operator This concludes today’s American States Water Company conference call. You may now disconnect your lines. Have a great day. 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.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited. THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY’S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY’S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY’S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS. 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Clean Energy Fuels’ (CLNE) CEO Andrew Littlefair on Q1 2016 Results – Earnings Call Transcript

Clean Energy Fuels Corp. (NASDAQ: CLNE ) Q1 2016 Results Earnings Conference Call May 5, 2016, 04:30 PM ET Executives Tony Kritzer – Director of Investor Communications Andrew Littlefair – President and Chief Executive Officer Robert Vreeland – Chief Financial Officer Analysts Eric Stine – Craig-Hallum Rob Brown – Lake Street Partners Pavel Molchanov – Raymond James Operator Greetings and welcome to the Clean Energy Fuels first quarter 2016 earnings conference call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Tony Kritzer, Director of Investor Relations. Please go ahead. Tony Kritzer Thank you, operator. Earlier this afternoon, Clean Energy released financial results for the first quarter ending March 31, 2016. If you do not receive the release, it is available on the Investor Relations section of the company’s Web site at www.cleanenergyfuels.com where the call is also being webcast. There will be a replay available on the Web site for 30 days. Before we begin, we’d like to remind you that some of the information contained in the news release and on this conference call contains forward-looking statements that involve risks, uncertainties and assumptions that are difficult to predict. Words of expression reflecting optimism, satisfaction with current prospects, as well as words such as believe, intend, expect, plan, should, anticipate and similar variations identify forward-looking statements, but their absence does not mean that the statement is not forward-looking. Such forward-looking statements are not a guarantee of performance and the company’s actual results could differ materially from those contained in such statements. Several factors that could cause or contribute to such differences are described in detail in the Risk Factors section of the Clean Energy’s Form 10-Q filed May 5, 2016. These forward-looking statements speak only as of the date of this release. The company undertakes no obligation to publicly update any forward-looking statements or supply new information regarding the circumstances after the date of this release. The company’s non-GAAP EPS and adjusted EBITDA will be reviewed on this call and exclude certain expenses that the company’s management does not believe are indicative of the company’s core operating business results. Non-GAAP financial measures should be considered in addition to results prepared in accordance with GAAP and should not be considered as a substitute for, or superior to, GAAP results. The directly comparable GAAP information, reasons why management uses non-GAAP information, a definition of non-GAAP EPS and adjusted EBITDA, and a reconciliation between these non-GAAP and GAAP figures is provided in the company’s press release, which has been furnished to the SEC on Form 8-K today. Participating on today’s call from the company is President and Chief Executive Officer, Andrew Littlefair, and Chief Financial Officer, Bob Vreeland. And with that, I will turn the call over to Andrew. Andrew Littlefair Thank you, Tony. Good afternoon, everyone, and thank you for joining us. I’m going to keep my remarks focused on the most important takeaways from what we feel was a strong first quarter. We reported first quarter revenue of $95.8 million, which is a 12% increase over the first quarter of last year. Additionally, we reported $29.8 million of adjusted EBITDA versus negative $5.6 million in Q1 of 2015. The first quarter of 2016 included $6.4 million of VETC and a gain of $15.9 million from buying back some of our converts at a discount. However, even when these real benefits are backed out, our adjusted EBITDA was still positive at $7.5 million, an improvement of over $13 million from the first quarter of 2015. We delivered 77.5 million gallons to our customers. This is a 3% increase over the 75 million gallons we delivered during the first quarter of 2015. On the year-end earnings call, I told you that a primary focus for 2016 would be to conserve cash and de-leverage the balance sheet. To that end, we repaid $60 million of the $145 million convertible notes due in August 2016. In addition, given favorable pricing, we have been opportunistically repurchasing our 2018 convertible debt in the open market through privately negotiated transactions. In the first quarter, we repurchased $32.5 million; and so far in the second quarter, we have repurchased an additional $31.5 million. All told, we have repurchased $64 million of our 2018 convertible notes, leaving $186 million due in October 2018. Our total convertible debt reduction is $124 million. Also to date, in 2016, we have raised $32.4 million of proceeds from public stock sales. At quarter-end, we had $163 million of cash and investments on our balance sheet. Additionally, we reduced our SG&A by 15% year-over-year, while growing our volume and revenues. We are on track with our reduced CapEx budget of $25 million for 2016, which is 50% less than last year, so we are executing on our plan to conserve cash and reduce our debt. From an industry perspective, the pressure for companies to become more sustainable continues to grow. We see natural gas fueling as an economic and realistic solution that a company can utilize to achieve greater sustainability. And we are working with a variety of fleets and shippers like Kroger and Unilever as well as trucking companies, waste companies and municipalities. Fleets continue to look to fuel with natural gas. Here is a noteworthy example. The United States Postal Service is pursuing an initiative to reduce their carbon footprint by 20% by 2020 and have concluded that natural gas is the alternative fuel of choice for their third-party contracted carriers. These carrier carriers are responsible for the majority of all USPS transportation emissions. As part of their contract renewals, the Postal Service is starting to require its outside carriers to use natural gas where it is cost-effective. We are currently working with five other major carriers, who combined have 75 natural gas tractors fueling at several of our highway stations. Additionally, the USPS is considering replacing some of their own Class A tractors and straight trucks with natural gas. Turning now to our renewable fuel business, we continue to see increased interest in demand for our renewable fuel offering. Through our robust network of stations, we have established a pathway to Redeem, our renewable green gas, into vehicles. This is the best way to realize the full value of renewable fuel, which contributed $11 million of revenue in the first quarter. I want to emphasize that our expanding infrastructure has enabled us to benefit from this rapidly growing renewable market and differentiates us from our competitors. Companies like UPS, Ryder, Republic Services and many transit agencies use Redeem and understand its significance. Another important industry innovation, the Cummins Westport low NOx engine has already captured a lot of interest, and these engines are available to order. As a reminder, this low NOx engine reduces NOx 90%. And when combined with our Redeem renewable fuel, it has 90% less carbon. It is cleaner than running an electric vehicle that is plugged into the grid. In the industry, this new introduction is referred to as game changer. Turning now to our station construction, we benefited, during the first quarter, from an increase in full station projects. Currently, we have over 60 projects under contract and in the pipeline. We continue to believe our robust construction pipeline is a solid indicator that our customers continue to make investments in expanding their fleets and remain committed to their sustainability goals. Our virtual pipeline subsidiary, NG Advantage, showed impressive growth, delivering close to 8.6 million gallons to their customers. I’m also pleased to report that we recently signed a follow-on supply deal with Hawaii Gas, which is contracted to purchase over 14 million LNG gallons over the next five years. All told, it was a strong quarter. And I believe it is a testament to our diverse product offering and recurring revenue base. Our largest customers continue to buy new trucks and invest in their natural gas operation and we continue to gain new customers across our markets of transit, refuse and trucking. Our adjusted EBITDA continues to trend positively and we are taking strategic actions to de-leverage our balance sheet and we’re being disciplined with our capital. And with that, I’ll turn the call over to Bob. Robert Vreeland Thank you, Andrew. Good afternoon to everyone. As Andrew mentioned, we have a strong quarter with continued volume growth, a 12% increase in revenue, and adjusted EBITDA of $29.8 million. Starting with volume of 77.5 million gallons, a 3% growth rate over the first quarter of 2015, impacting this growth rate was a decline in RNG volume of 3.5 million gallons. Most of that decline is the result of no longer owning and operating our former Dallas bio-methane plant, which we sold and then operated through mid-April of 2015. Exclusive of those gallons, our volume growth was 8% year-over-year. As Andrew mentioned, NG Advantage had strong year-over-year growth as did our refuse sector, while the other sectors were level with a year ago. LNG volume was down 2.9 million gallons, principally from lower bulk LNG sales. Bulk LNG sales can be uneven throughout the year as LNG demand is influenced by various external factors, such as, more recently, the slowdown in E&P industry, the variable demand of large industrial customers, and weather. We remain active and compete well in the bulk LNG marketplace as evidenced by our new deal with Hawaii Gas. Our Redeem gallons, which are included in our CNG and LNG fuel gallons, increased 70% year-over-year to 15.2 million gallons for the quarter. Our 12% increase in revenue in the first quarter was driven by a better effective price per gallon on higher volume, increased construction project revenue, and the alternative fuel tax credit referred to as VETC. Our Compression sales were down year-over-year as we remain in this challenging global oil environment together with a strong US dollar, although the related gross margin contribution from our Compression business was better than a year ago despite the lower revenue. Our adjusted EBITDA of $29.8 million was driven by a strong gross profit margin, continued reductions in SG&A spending, and a gain from our opportunistic convertible debt repurchase. Our strong gross profit margin was driven substantially by the impacts of selling our Redeem fuel and the associated environmental credits, which helped take our gross profit margin per gasoline gallon equivalent to $0.36 per gallon compared to $0.28 for the first quarter of 2015. Both quarters include the state and federal environmental credits, the LCFS and RINs. The combined credits amounted to $11 million in the first quarter of 2016 compared to $3.2 million in 2015. The economic benefits from the environmental attributes of both natural gas and Redeem remain strong and have more than offset the pressure on retail fuel margins from this low oil and diesel price environment. And finally, on gross margin, we benefited from our increased station construction project sales and the VETC revenue. Our 15% reduction in SG&A to $25.6 million was $4.6 million lower than a year ago and $1 million or 4% lower than the recent fourth quarter. This has been a continuing trend and is the result of the actions we’ve taken given the low oil price environment. And as Andrew mentioned, we recorded a $15.9 million gain on the repurchase of $32.5 million of our 2018 convertible debt. The higher revenues and gross profit margin and lower SG&A, along with the gain on debt repurchase, led to GAAP net income of $2.8 million in the first quarter of 2016 compared to a net loss of $31 million a year ago. And it also lead to an improvement of $35.4 million in adjusted EBITDA from a year ago. Looking forward, we anticipate our Redeem sales to benefit our results, VETC will be recorded each quarter in 2016 relative to volume, and we continue to expect positive quarterly adjusted EBITDA for the balance of 2016. And with that, operator, we’ll open the call to questions. Question-and-Answer Session Operator Thank you. [Operator Instructions] Your first question comes from Eric Stine with Craig-Hallum. Please go ahead. Eric Stine Hi, everyone. Nice quarter. Andrew Littlefair Thank you, Eric. Robert Vreeland Thanks, Eric. Eric Stine I want to start with Redeem, especially given the impact that had in this quarter. How do you think about that long-term – limiting factors to growing volumes there? I know part of it is that, right now, what, California and Oregon that have LCFS, have the standards where you can participate. But do you see other states going down the road of California? And ultimately, where do you think that those Redeem volumes can go? Andrew Littlefair Thanks. I think the short answer, Eric, is the – we’ve had tremendous growth in the Redeem business, and so it won’t be easy to keep up on that growth. But it will continue to develop, and so I think you should count on what we’re doing. So what you saw in the first quarter should continue. I really think that in terms of renewable fuel, we’re really at a beginning point as we’ve got a few different – I know you attended the ACT Conference out here. I really believe that the transportation industry, passenger car, and also those in goods movement, I think this being sustainable fuels and sustainable technologies, I think we’re just at the beginning of what’s going to be a very long move toward cleaner fuels and cleaner innovation, cleaner technology. So I think, over time, you’ll see us continue to grow Redeem. Washington State is now looking at Low Carbon Fuel Standards. We’re selling Redeem in Texas now. The Northeast has kind of come in and out of something that feels a little bit like Low Carbon Fuel Standards. Some states will be more progressive than others. But I think you’re going to continue over time to see more and more regulations that incent and begin to put more values on carbon. And so, I think the good news is for our industry and for our company is that we have this renewable fuel, we have the network to be able to dispense it and the pathway to be able to get it into vehicles. That gives us a huge leg up compared to some of the others in this business. And I think that having the technology, the new Cummins Westport engine which I know was highlighted at this big conference out here just this week, it’s a low NOx engine which is very important for tailpipe emissions, but it also – when it’s combined, as I said in my remarks, with Redeem, it’s really cleaner than the grid which is a big deal. So I think we are well-positioned and I think it will be important, Eric, as we go forward. Eric Stine That’s volumes. But in terms of pricing, what I’m looking at or reading, it seems like the thought is that the pricing, the carbon price per ton, that trend, while there may be some near-term volatility, the trend there is higher too. Andrew Littlefair Yes, Eric. And that’s right. So there’s two – there’s definitely two components to that. There’s the volume and then there’s the pricing of the environmental credits. And that environment has been strong and continues to be strong at the moment. Now, like you said, there’s always the chance of some volatility. But just the way – with the standards that have been set and the obligated parties and all of that, it’s making that kind of a strong market. Eric Stine Yeah, okay. Maybe just thinking about your fleet activity, yesterday, at ACT, clear impression that people thinking that the market is probably flat this year, maybe down a little bit, but just curious, are you seeing any movement in your pipelining other than maybe the timing getting pushed out a little bit? Have any fleets dropped out of that pipeline? What are you seeing right now? Andrew Littlefair Eric, when you look at our customer base, the refuse market continues to be strong. It’ll be as big a year as we’ve had. And we’ve been a host of an industry event, which is called the Garbageman’s Invitational. It’s worth 300 refuse industry executives come here a couple weeks ago. And to a company, they’re all fueling natural gas trucks. And so, that’s a really important segment for us. We see the same thing expanding in transit. Now, when we talk about kind of flat year-over-year, the trucking industry hasn’t been as involved. It doesn’t have quite the maturity in terms of putting vehicles in their fleet like the refuse and transit guys who have been at this now for a decade. So it was a newer segment for us. And I would say, Eric, those that – we’re still seeing new fleets come, often in more of a testing mode with handfuls or dozens of vehicles rather than large purchases. But even in that segment, which I think you’re correct, that it will be similar this year to what it was last year, which I would consider to be important that we’re not backsliding. UPS continues to show the way as other big fleets like them. They haven’t turned back and we haven’t really seen any existing customers that have been in this, especially in the trucking, go back. Those that were on the fence when we entered this downturn in the oil price, they continue to review it. But I would say their attitude – and I’ve even probably met some out there at the conference. The attitude is not opposed to natural gas. In fact, I find it refreshing, in that they’re interested in moving forward. But they’re mindful of the fact that they’ve gotten very low diesel price right now. So I think that when that subsides you’re going to see an uptick in the adoption of natural gas for heavy duty trucking. Eric Stine Right. I guess this is kind of tough to quantify, but I’ll ask anyways. Is there an oil price that you look at and say, okay, at that level, then that’s when trucking really pick back up again? Andrew Littlefair It’s hard to pin me down there. But I know this is that, we’ve had some customers begin to model out oil at $40 a barrel, right? And in some cases, that sort of is difficult to make the natural gas equation work as well as it once did. I think, Eric, when you see $50, $55, $60 a barrel, it really gets – it really begins to move up the price of diesel. Look, diesel price has gone up nationally $0.10 in the last two weeks. It’s gone up every week for the last four weeks. And so, we don’t need to see $100 oil. You need to see the price of – we need to get off of people thinking that we’re going to have $40 oil forever. And I think once they see that there’s volatility, again, in their oil price and it comes back up to $50, $55, $60, I think that’s going to be the signal to have people begin to then – natural gas is still – let’s not forget, that’s our big commodity that we use here and it’s low. It’s very low. And so, the economics begin to sing again when you get back up to that oil price. Eric Stine Okay, thanks a lot. That’s it for me. Andrew Littlefair Yeah. Operator Your next question comes from Rob Brown with Lake Street Capital Markets. Please go ahead. Andrew Littlefair Hi, Rob. Good afternoon. Rob Brown Congratulations on the EBITDA improvement. I think you said you had 60 stations in your pipeline. Could you give us a sense of – is that all to be delivered this year? And then maybe a sense of the gallon volume that those projects sort of generate ongoing? Andrew Littlefair I don’t know that I have the volume for you, Rob. But most of those stations that we’re talking about in the pipeline will be delivered this year. Rob Brown And then the mix of those, is it refuse mostly or maybe what is the mix there? Andrew Littlefair Big piece of those, refuse that are under contract, some are for our own account, some are for long contracted volumes from anchored tenants for stations that we’re building. Majority of those, though, are for customers – that we’re selling customers. And I hedged just a bit when we use the number over 60 and stuff like that because we get toward the end of the year and some of these – they will be under construction. But you never know if you’re going to get them all – four or five of them, we got it in December and this and that. But it looks to me like the station count should be very similar this year as it was last year, which are some of our biggest years that we’ve had. Rob Brown Okay, great. And then the Hawaiian Gas contract, I assume you’re supplying that out of Boron, but could you give us a sense of, again, what the gallon volume is there and sort of how that works? Andrew Littlefair Well, it starts out slow. And then my friends at Hawaii Gas have been – they’ve been wanting us to be careful about how much we’re saying. But it starts out – as you know, Rob, we’ve sold them some LNG already really more of in a test mode. And we had pieces of this contract done, gosh, maybe as long as a year ago and we were awaiting PUC approval, which came here a little bit ago. They’re now in the process of beginning to go out to bid to receive the containers that will be used for that shipping. Those will be – that’s underway now. Those containers will be delivered throughout this year and I imagine a big slug of those in the back end of this year. So we’ll begin to ramp up. And I think it begins to amount to around 3 million, 3.5 million gallons a year. And there’s a chance we’d do better than that. But it’s a nice additional load. And I hope the experience will be well because even with – you can imagine, all this entailed, we’re still able to bring them a very clean fuel that beats the otherwise imported fuel that they use for the islands. So we’re excited about it. They’re excited about it. And I hope that we can increase that from the number that I gave you in my remarks. Rob Brown Great, thank you. I’ll turn it over. Operator Your next question comes from Pavel Molchanov with Raymond James. Please go ahead. Pavel Molchanov Thanks for taking the question, guys. One of the things that’s really helped you get into positive EBITDA is the reduction in SG&A. So you went from $30 million a year ago to $26 million this quarter. Is there any further room to cut that even more? Robert Vreeland Yes, there is room. And so, we’ve been feeling the effects of actions that we’ve taken as we’ve been going along. So it’s been kind of coming down each quarter. Certainly, on a year-over-year basis, it’s a bigger number. As we go sequentially, it’s coming down. But at some point, it’ll flatten a little bit. Pavel Molchanov Okay, pretty close to where we are right now? Andrew Littlefair I think, Pavel, there’s a little room still left in it. We’re continuing to eye different things to try to bring it down some more. I think there’s still some room left. You’ll see it maybe improve, continue this year. But all the while we’re still growing. And so, there’ll be a limit to how low we can bring it. Robert Vreeland Yeah. So it’s pretty close. Pavel Molchanov Just a housekeeping question, in Q1, you got the VETC catchup cash inflow, how much was that? Robert Vreeland Correct. So we collected all of the VETC that related to 2015. Pavel Molchanov How much is that? Robert Vreeland Yeah, so it was a little bit in excess of about $30 million. Pavel Molchanov $30 million. Thank you, guys. Robert Vreeland Yeah. North of that. Little bit north of that. Andrew Littlefair $32 million. Robert Vreeland Yeah. So it’s a little bit… Andrew Littlefair $32 million, yeah. Robert Vreeland Exactly. Andrew Littlefair Thanks, Pavel. Operator Thank you. There are no further questions at this time. I’d now like to turn the floor back over to Mr. Littlefair for closing remarks. Andrew Littlefair Good. Well, thank you, operator. Thank you, everyone. I want to thank you for listening and – listening in on the call this afternoon. We look forward to updating you on our progress next quarter. Operator That does conclude our conference for today. Thank you for participating. You may now disconnect your lines. 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